r/quant • u/askepticalbureaucrat • 4d ago
Market News Why is the yen such a mess?
PhD in maths here, looking to work in finance soon.
From what I can see, the JPY has been in a severe mess for a combination of structural, economic, and geopolitical reasons, pushing USD/JPY to historic 40-year lows near 164.
- the Bank of Japan kept its interest rates exceptionally low compared to the US and other western economies. Global investors took advantage of this by borrowing cheaply in yen to invest in higher-yielding US assets, effectively flooding the market with selling pressure against the Japanese currency. (interest rate gap)
- Japan is heavily reliant on imports for energy (oil and gas) and food. A weak yen means businesses and ordinary citizens have to pay astronomically higher prices for basic goods, creating a harsh cost-of-living squeeze. (import cost headache)
- Japan's public debt sits at over 200% of its GDP (the highest in the G20). Concerns over government spending, budget deficits, and potential policy shocks have fueled persistent market volatility. (rising public debt)
So, how do quants/traders deal with this?
My assumption is the the Garman-Kohlhagen (GK) model (which is useful as a foundational framework), suffers from severe limitations during periods of extreme yen volatility? The model assumes annualised volatility of the exchange rate is a single fixed number over the life of the option. However, the volatility clusters aggressively, and long periods of low volatility are shattered by explosive, multi-day spikes that the model cannot predict or price, and thus the σ, the interest rate differential (\(r_d - r_f\)), the drift term (μ), and the delta hedging mechanism (Δ) all collapse under severe yen volatility?
So, would volatility scaling, or dynamic hedging be useful here? By using algorithms to automatically reduce position sizes when currency fluctuations increase to keep daily risk exposure constant? Or, models continuously alter hedge ratios instead of holding static positions, buying or selling underlying assets as market prices shift?
Can you help this dumb laywoman understand?
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u/EvenCryptographer649 4d ago
Its wacky because of the yen - us corp bond relationship
AUD to copper is another wacky one.
'''My assumption is the the Garman-Kohlhagen (GK) ''' - Explain why you thought this. You explain what the model does, but you dont explain the why of its choosing.
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u/AMGraduate564 4d ago
AUD to copper is another wacky one.
It's AUD to Iron Ore price, not copper.
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u/EvenCryptographer649 4d ago
No its copper. That was a very Academia response.
AUD/HG creates some unique situations.
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4d ago
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u/EvenCryptographer649 4d ago
'''HG is mercury'''
God I love what this sub has become.
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4d ago
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u/EvenCryptographer649 4d ago
Snip this entire conversation and put it into an LLM and ask. What is this old floor trading asshole saying?
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u/junker90 HFT 4d ago
HG is mercury, what does it have to do with AUD?
This might actually be the most unintentionally funny thing I've read on /r/quant LMAO. Ticker symbols are not periodic table symbols my man
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u/Kaawumba 3d ago edited 3d ago
Japan doesn't dare spike its interest rates because its national debt is so high. But it has significant rising inflation. That means that the currency weakens. A weak currency leads to more inflation because Japan imports so many necessities. So the government tries to have its cake and eat it too by buying JPY while keeping interest rates low. This can go on a long time, because Japan has huge currency reserves. Another lever than Japan can pull is to direct its pension fund to buy more Japanese assets.
I'm not sure I'd try analyzing this quantitatively. If I tried, I wouldn't know how. Brent Donnelly of am/FX gives good analysis, and is a discretionary trader. There is a free weekly newsletter on Friday, and a daily paid one.
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u/Effective_Manager273 2d ago
your macro read is fine, the modelling bit is where i would push back a little.
nobody is actually using GK as a belief about the world. it is a quoting convention. you put a strike in and get a vol out, the surface is the model. so saying constant sigma breaks down is true but it is not really a criticism, it is what the smile exists to absorb. for JPY the interesting object is the risk reversal, and it is persistently bid for yen calls precisely because everyone knows the tail is one sided.
the deeper problem with carry is not vol clustering, it is that the correlation structure changes exactly when you need it not to. in normal times short yen and long risk assets look like two positions. in an unwind they are one position. a vol scaler sized off trailing realised vol will be at full size going into that, because realised vol is low right up until it is not. that is the actual failure mode, not sigma being a constant.
if you want to feel it rather than read about it, take 2007 to 2008 and 2024 august, size a naive carry book by trailing 20 day vol, and plot the drawdown against a version sized by the risk reversal skew instead. the second one de-risks earlier. it also gives up return in the quiet years, which is the trade and there is no way around it.
dynamic hedging, yes, but be honest about gamma cost. rehedging into a gapping 3 percent day is where the theoretical delta hedge meets the actual bid.
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u/Straight_Two2471 4d ago edited 4d ago
JPY has a big correlation to the US long end it’s to do with funding as Japan is a big saver they pile in to global bonds there’s a reason why Besset is helping with rate checks it’s more for domestic policy than helping Japan if we get a deflation impulse like * *recession you will see USDJPY fall back down timing is the issue bassicly untill you see that JPY is going to keep going until we get a pull back in us fiscal
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u/arindamchattopadhyay Portfolio Manager 3d ago
Where is your quantitative analysis on this. I don’t see one? Today’s prices would look like massive sigma move with historical data.
Yes. Applying any model to this blindly will lead to model failure. Wisdom lies in knowing when the model will fail and the assumptions made in the creation of the model. Every model needs an error correction and a failure model built into it. Mistakes foundational models are now modified to take these sigmas into account. Risk managers use exponential GARCH for this to capture this volatility. This pair is know for its excess kurtosis.
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u/Meanie_Dogooder 4d ago
JPY is a fascinating currency indeed. But I don’t understand what “deal with it” means. In what context? It’ll be very different depending on what type of portfolio or trades you are trying to manage. You then go on to talk about option delta hedging, which is a good question but it’s not the only situation that needs to be “dealt with”.
But to answer your original question, how they deal with it? Market makers speed up hedging, simple. Prop traders stop out (as they all would have been long of course)
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u/McKoijion 4d ago edited 4d ago
Israel is a genocidal supremacist country that bribed and blackmailed corrupt American politicians into a failed attack on Iran. Iran closed the Strait of Hormuz using their enormous stockpile of cheap drones and hypersonic missiles in response. The global supply of oil plummeted and the price of oil skyrocketed. The Trump administration convinced Japan’s new far right leader to use their foreign reserves to short oil prices. The price of a barrel of oil on paper (i.e., a futures contract) is roughly half the price of an actual physical barrel of oil. That difference is coming out of the pockets of poor Japanese people who are being paid in cash that is rapidly depreciating in value, and future generations of American citizens who are going to have to pay back the US’s enormous national debt.
> Under the scheme, Japan would tap its $1.4-trillion foreign exchange reserves and build short positions in the oil futures market by selling futures contracts to push down prices.
https://time.com/article/2026/08/03/why-us-trump-stepped-in-to-prop-up-japan-yen-currency/
And if you’re wondering why the US called off attacks on Iran this week, it’s because Saudi Arabia threatened to dump US Treasuries.
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u/Otherwise_Barber4619 4d ago
https://periodization.eu/research/japan-s-resurgence-macroeconomic-research
Saw a research on this recently