Deutsche Bank's latest report indicates that the persistent weakness of the Japanese yen is the result of a combination of "policy acquiescence" and "capital outflows," making short-term foreign exchange intervention unlikely. According to the report, despite Japan's current account surplus reaching a historic high of 6% of GDP and its basic balance of payments also showing strength—signaling a significant undervaluation of the yen—policymakers prefer to maintain a loose environment. Concurrently, domestic corporations and institutional investors continue to allocate funds to overseas assets. This dual dynamic of "capital outflow + policy easing" is expected to persist for the coming months. The yen's undervaluation is particularly evident in external account data: the current account surplus is primarily supported by growth in the primary income account, while net securities investment has also turned positive, partly due to foreign investors increasing their holdings of Japanese assets as Japanese government bond yields rise and the stock market strengthens. However, Japanese companies' outward foreign direct investment remains close to 2% of GDP, and institutional investors continue to increase their holdings of foreign stocks and bonds, highlighting a lack of domestic confidence. The report further points out that the current USD/JPY exchange rate is about 7-8% higher than the level implied by US 10-year Treasury yields, reflecting that the market has priced in a significant "policy risk premium." Although yen weakness diverges from fundamentals, the urgency for government intervention is not high because volatility remains relatively moderate and speculative positions are not excessively concentrated. A record current account surplus highlights the yen's undervaluation. The report states that Japan's current account surplus has climbed to a historic high, clearly indicating a significant undervaluation of the yen. Driven by yen-denominated factors, both income and trade scales have expanded simultaneously, with growth primarily stemming from contributions to the primary income account, mainly from foreign direct investment, while the trade deficit has largely disappeared. The basic balance of payments also remains robust, with net securities investment having shifted to an inflow state. This change is mainly attributable to increased exposure to Japanese assets by foreign investors: as Japanese government bond yields rise and the stock market performs strongly, international funds, including reserve management institutions from various countries, are continuously increasing their holdings of Japanese bonds and stocks. Japanese companies and institutional investors continue to shift away from domestic markets. Despite the strong performance of Japan's external account data, confidence in the domestic market among Japanese companies and institutional investors remains insufficient. Japanese companies continue to direct funds overseas, with net outward foreign direct investment nearing 2% of GDP, residing in a historically high range, and external economic and trade pressures may further reinforce this trend. Notably, the direct investment income Japanese companies earn from abroad is not fully repatriated to yen-denominated assets. Data shows that approximately half of the overseas income is used for reinvestment, and even the portion considered "repatriable" is often held in foreign currencies within corporate accounts to a significant extent. The behavior of institutional investors also points to capital outflows. In the fourth quarter of 2025, driven by NISA (Nippon Individual Savings Account) funds, investment trusts continued to increase their holdings of foreign stocks; although pension funds reduced some assets, the funds were primarily shifted to foreign bonds. Meanwhile, life insurance companies have not significantly increased their holdings of Japanese government bonds, indicating that institutions, overall, have not seen a structural shift back to domestic fixed-income assets. Policy preference leans towards maintaining a loose stance. Even though Japan's capital outflow trend is evident, its strong broad basic balance of payments still reflects that the market has priced a significant policy risk premium into the exchange rate. The current USD/JPY rate is about 7-8% higher than the level implied by US 10-year Treasury yields; this deviation is even more pronounced when measured by relative interest rates.
The report analyzes that the possibility of foreign exchange intervention by Japanese authorities is low in the short term. The conditions policymakers focus on for intervention mainly include the degree of the exchange rate's deviation from fundamentals, the speed of volatility, and the level of speculative positioning. Currently, only the first condition is preliminarily met. An "overshooting indicator" constructed by Deutsche Bank, which synthesizes these three factors, does not currently signal that the exchange rate is in a state urgently requiring intervention. Under the current political environment, Japanese policymakers clearly prefer to maintain loose fiscal and monetary policies, a stance not expected to change in the short term. As long as the persistent weakness of the yen does not trigger significant dissatisfaction among domestic voters, the existing policy direction and exchange rate trend are likely to continue.
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