Key Highlights

• JPY’s market structure normalizes ahead of BoJ meeting, but event risk growing
• GBP avoids another “mini-budget” moment, but gilts are decoupling from Treasurys
• Growth and policy differentials critical in APAC FX as valuations start to peak

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Japanese yen and market structure normalize ahead of BoJ meeting

EXHIBIT #1: JPY SCORED HOLDINGS AND USDJPY EVOLUTION

_Source: BNY

Our take

There are clear signs across multiple flow and market metrics that the Japanese yen is normalizing following a period of significant volatility. USDJPY was initially pushed to a low of 140.33 by flight-to-quality flows, before rebounding in May following the Geneva trade deal between the U.S. and China and easing of tensions, and ultimately settling near 145.00 in June. Real money positioning in iFlow shows JPY rose from 0.8 at the end of March to a multi-year high of 2.5 in mid-April, before gradually declining to 0.6 now. In the meantime, fast money – as indicated by the CFTC weekly positioning report – remains heavily long JPY at historically extreme levels, lagging behind real money unwinding. Notably, USDJPY has decoupled from traditional drivers like the 10-year U.S. yield, yield differentials and BoJ expectations, although these distortions have mostly corrected as market conditions have stabilized.

Forward look

The near-term focus for the Japanese yen and related assets will be on U.S.-China trade negotiations, with a deal expected at next week’s G7 summit along with a monetary policy update from the Bank of Japan, particularly with respect to its bond purchase program. The current ¥400bn quarterly reduction in outright bond purchases is set to expire in Q1 2026. Among the proposals being considered to help stabilize long-end yield volatility are buybacks of super-long Japanese government bonds (JGB) and reduced issuance. The 40-year JGB yield surged to 3.69% in May before reversing to 3.11%, and has since traded sideways in June. We expect the BoJ to resume its tightening cycle once global conditions stabilize if wage and inflation pressures persist. With no strong flight-to-quality bid, stretched fast money longs and elevated U.S. yields, USDJPY remains vulnerable to a near-term tactical pullback before a more sustained decline as policy clarity emerges. Periods of calm are often followed by renewed volatility and with several key events on the horizon, the stage is set for just such a shift in the JPY.

GBP a possible casualty as HMT and BoE look to stabilize gilts

EXHIBIT #2: GILT AND UST FLOW, YEAR TO DATE

_Source: BNY

Our take

Much to the relief of the U.K. government, the Spending Review has largely been ignored by markets and there has been no repeat of the 2022 “mini-budget” episode, in which the U.K. faced serious questions over fiscal credibility, while other technical factors surrounding market structure led to severe dislocations in gilt markets. Much of the spending and investment commitments were well telegraphed to markets, and the government’s realization that savings across government departments are needed likely soothed fears about unfunded commitments. For many other G10 economies facing stagflation risk and potential bond market stress, the U.K.’s experience is probably a good lesson in how to navigate general skepticism. However, a bigger challenge awaits such economies as “guilt by association” is still a problem as the U.S. faces its own budget reckoning up ahead. Our flow data indicate that for much of the first quarter, there has been near perfect co-movement between U.K. gilts and U.S. Treasury securities among cross-border investors, and not in a good way. During the April episodes of risk aversion, rather than seeing inflows from dollar/U.S. Treasury diversification interest, gilts faced even stronger sales and that period was the weakest since the mini-budget episode. While we agree with the U.K. Chancellor that much of the gilt curve steepening this year is attributable to U.S. actions, the U.K. and other economies facing similar fiscal dominance challenges must remain vigilant for spillover effects from U.S. fiscal conditions.

Forward look

As of early June, gilts have once again begun to outperform U.S. Treasurys on a monthly smoothed flow basis among cross-border investors. This is a good starting point, but we believe significantly better performance is needed as an indication of positive divergence. There are some encouraging early signs, and the soft May labor market report has rekindled expectations of a less hawkish Bank of England. Similar demand-based disinflation in Canada and Australia would also support local bond markets. However, GBP has also reacted accordingly, and we are finally seeing a necessary adjustment from toppish valuations. This is somewhat emulating the path of the dollar of late: a weaker dollar and higher yields proved to be the “cost” of stabilization in Treasury yields, as cross-border investors find total return-based valuations much more attractive when currency declines complement the fall in bond prices. Other currencies in the “stagflation” camp could follow, though we appreciate that the growth and fiscal outlook for the U.K. is more adverse than its G10 peers.

KRW navigating economic stimulus and a widening deficit

EXHIBIT #3: HEDGING DYNAMICS BACK IN PLAY IN APAC

_Source: BNY

Our take

Within emerging markets, the market remains focused on how APAC currencies develop, as regional central banks have struggled to manage capital inflows. KRW is now the best-held EM currency in iFlow, but tolerance for valuation gains will wane given the trade and inflation risks throughout Asia. In South Korea, Lee Jae-myung’s landslide presidential election victory has triggered a sharp turnaround in sentiment. With near-term political uncertainty removed, investors are now refocusing on the economy. Foreign inflows into South Korean equities have rebounded, with nearly $3bn in net inflows month-to-date amid expectations of fresh government stimulus. Discussions center on a KRW 20–30tn package following the KRW 13.8tn supplementary budget passed in May 2025. However, the impact on the Korean won is less straightforward. The won rallied by nearly 1% in June – more than twice the regional average – on supportive flows. iFlow data show steady buying of both KRW and equities over the past two weeks. While equity demand persists, currency inflows show tentative signs of fatigue. Renewed concerns over fiscal deficits, a dovish BoK, and reports that the National Pension Service has ended a five-month KRW buying strategy could weigh on the won and raise the risk of a USDKRW rebound.

Forward look

Overall, some progress in U.S.-China trade negotiations is supportive of risk sentiment, but differentiation within the APAC region remains important. For instance, the Taiwanese dollar continues to grind higher due to residual hedging demand from major life insurers, who posted $1.2bn in losses in May after a $620mn loss in April. The Chinese yuan is likely to remain range-bound as investors balance cautious optimism on a U.S.-China deal with close monitoring of signs of a domestic consumption-led recovery. The resilience of the Thai baht is surprising given Thailand’s weak GDP growth, downgraded tourism forecast, and depressed equity market. Indonesia’s rupiah appears undervalued and is lagging behind strong demand for government bonds. The Hong Kong dollar is a whisker away from the upper end of its 7.75-7.85 convertibility band, with authorities seemingly committed to suppressing rates to preserve the integrity of the currency board. Finally, the Singapore dollar remains richly valued, offering limited upside.

Bottom line

As we move toward key dates in June and July, there are tentative signs that the dollar is stabilizing. We’ve consistently argued that talk of the dollar’s status loss was premature, and FX markets now appear to be recognizing that valuations for several major pairs had reached uncomfortable extremes. Idiosyncratic management of currency regimes across Asia is also starting to cap local FX appreciation – broadly aligned with regional growth objectives, particularly as China continues to grapple with persistent disinflation. Adjustments in G10 currencies are becoming more pronounced, and we believe the recent surge to record highs in European equity indices, alongside stable yields, reflects growing confidence that the dollar is regaining its footing, which opened up external inflows. This consolidation phase is likely to persist until greater clarity emerges around the upcoming trade and fiscal developments in July.

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