Not for the first time, the BoJ made a bit of a hash of its meeting, issuing a mismatch of comments that saw the Yen initially appreciate before giving back all gains and then some.

When we dig into the details of the meeting and subsequent press conference, the desire to continue holding our short Yen position (expressed via a long BRL/JPY) remains firmly intact.

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Euribor futures reflect this view, with the extreme lows having been bought in ERZ6 in recent weeks, but with no meaningful move back to pre-conflict February levels.

After revising our view in UnSTIRtain Times exactly a month ago, we continue to hold that the ECB will hike once this year, with the emerging dynamics increasingly supportive of this view.

Yet based on current ERZ6 pricing, there’s still a trade to be exploited.

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However, we sit in the middle, and expect the greenback to enter a consolidation phase in the coming months, with competing forces largely netting out most of the tail risks of a sharp move either way.

Granted, there’s a large disclaimer when discussing price action right now, given the ongoing conflict/ceasefire/agreement/lack of… but let’s spell things out as we see it.

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Even though the election is far off, the sharp ground being made up by the junior Bolsonaro is notable and worthy of attention, especially given our most recent trade implementation of long BRL/JPY from Energy Is Repricing Carry last week.

We believe it is wise to map out the currency implications for the polling shift based on political movements to see if the risk is worth carrying.

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In the FX space, one theme isn’t providing anywhere near as much uncertainty, and is starting to gain more attention. We’re talking about a hybrid of the carry trade, with a bias toward net energy beneficiaries over pure interest-rate differentials.

Even with our view of de-escalation in the coming months, the underlying dynamics behind the theme could continue to offer gains from a total return perspective.

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We were stopped out at 97.60 swiftly afterwards, with the contract now trading at 97.16. Although we don’t like to engage in hyperbole, it has truly been a historic move not only in the European contract but also in other G10 equivalents.

With us having already gotten over the frustration of such a swift trade exit, the uncertain lay of the land makes clear thinking all the more important as we set out our chessboard from here.

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With prices still elevated and the promise from President Trump of a quick win not yet materialising, more chatter is out there that the nations most sensitive to an inflationary shock will be forced to look towards interest rate hikes.

One of the most spoken of is the European Central Bank (ECB), where GC member Muller said today the chances of the next change in policy rate is more towards an increase than a decrease.

Yet does it really make sense to price for an ECB hike as we currently stand?

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The broad correlated move is an understandable knee-jerk reaction by participants, but it feels ill-thought-out from a country-level vantage point. The extent of energy exposure, the timings of pass-through impact, and the existing central bank stance should also be taken into account.

As a result, we believe there’s already an asymmetry in the G10 rates space that could offer some attractive opportunities in the coming weeks.

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This is already playing out, with USD/JPY moving back higher in recent days and a sharp bid seen on Tuesday following Takaichi's comments on domestic interest rates. This represents the next clear sign validating our view that she will pursue not only expansionary fiscal policy (and refuse to have it watered down), but also lend her voice to monetary policy.

We therefore take today's news in our stride and outline the steps that should push USD/JPY to fresh highs and cause a repricing in the December ‘26 TONA contract, in the coming months.

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CAD was already on our radar in recent weeks after the dismal employment report from earlier in February. When you add other factors into the mix, including our bias for lower oil prices from here and zero interest rate cuts priced for 2026, it’s starting to make a compelling case for a medium-term short.

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That doesn’t mean there haven’t been key events to capitalise on, including the situation in Japan with Yen dynamics, fiscal and monetary policy issues in the UK, outperformance in Australia and more.

Below, we run through how trades from our recent notes have performed and how we’re positioned right now.

Performance as of 09/02

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His comments, with other factors such as the 5-4 vote split and more, have lulled rate markets into a false sense of security. Pricing in 38bps worth of cuts for 2026 might be following the narrative, but we believe the narrative is wrong.

There are several factors that could emerge in the coming months, leading the BoE to cut well in excess of 38bps this year. As such, trade ideas become apparent.

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More specifically for the Yen, we said:

“Japanese officials have escalated their warnings, with Finance Minister Satsuki Katayama publicly stating that she and U.S. Treas Sec Scott Bessent share concerns about the yen’s one-way weakness. So we’ve had a tick in the box for verbal interventions, with these comments implicitly broadening the possibility of joint or at least coordinated action should disorderly conditions deepen.”

Since then, we have indeed seen a snap election called, with Takaichi laying out plans to cut taxes. We’ve noted the rumours of the Fed rate-checking NY spot traders last week, with USD/JPY down almost six big figures since our last note.

In such a fast-moving environment, we turn our focus now to the second act, laying out the likely direction for USD/JPY from here.

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Given the situation we find ourselves in, the greenback has turned lower, with the pair that has really caught our eye being USD/CHF, which broke below 0.7900 in London trading on Tuesday, shedding over 1% at one point.

The move takes us into what we see as the ‘danger zone’ for the pair, with the 0.7800-0.7900 region proving critical for several reasons.

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Thanks to the growing likelihood of PM Takaichi calling a snap election, we’ve seen USD/JPY trade above 159.00 today, less than two months after our last note.

Therefore, intervention risk is indeed becoming real, but the broader dynamics beyond a short-term knee-jerk need to be factored in before making any trading decisions.

SUMMARY

• We feel strongly that a snap election will be called shortly, with Takaichi winning with a majority, given her approval ratings and domestic soundbites.

• The aggressive expansionary fiscal policies that will likely follow should push both JGB yields (particularly the long end) and USD/JPY higher.

• We see little value in chasing immediate upside on the pair in the wake of potential intervention, so prefer to get long on any tree shake.

The State of Play

Over the past few days, speculation has intensified that PM Takaichi is preparing to call a snap general election as early as February 2026, potentially dissolving the lower house at the start of the regular Diet session on January 23 with February 8 or 15 being discussed as possible election dates.

This follows a Yomiuri newspaper report and subsequent Kyodo agency confirmation that Takaichi has signalled her intention to party executives, underpinned by her high approval ratings and a desire to secure a clearer majority for the LDP.

Such a move is seen as a bid to solidify her political mandate, especially given the coalition’s razor-thin control of the lower house.

This is, of course, a bold political move. A prominent recent precedent is the October 2024 snap election called by then-prime minister Shigeru Ishiba. Rather than solidifying his leadership, the election backfired, with the ruling LDP–Komeito coalition losing its lower-house majority for the first time in years (securing only 215 of 465 seats, short of the 233 needed for outright control) and forcing an era of political fragmentation.

In the current context, however, Takaichi’s calculus differs materially from those past setbacks. Since becoming prime minister in October 2025, she has maintained robust public approval (reported in some surveys near 70%), particularly buoyed by her assertive economic and security policy stances that resonate with core conservative voters.

The current LDP coalition sits just a few seats short of a majority in the lower house, creating a strong incentive to seek a fresh mandate.

So do we think an election will be called imminently and that Takaichi will win a majority? Yes.

Policy Problems?

The headache for the Yen thus far, and for JGB yields, is the implications of the victory. You might think that a more politically stable Japanese government would be good for these assets. Yet this ignores the aggressively expansionary fiscal policy that will be implemented.

This implies larger budget deficits and heavier JGB issuance. On the surface level, the impact for higher yields is obvious. Higher expected issuance raises the term premium investors demand to hold long-dated JGBs.

Yet the rising deficit is also a factor, something we spoke about during the November note:

“As of December 2024, Japan had one of the highest debt-to-GDP ratios globally at 237%. For comparison, the US is at 124%.

Japan’s exceptionally high debt-to-GDP ratio becomes more challenging in a rising-yield environment because even small increases in borrowing costs feed directly into a large stock of outstanding obligations.

While Japan’s long average maturity profile slows the pass-through, higher JGB yields ultimately force the Ministry of Finance to devote more revenue to interest payments, limiting flexibility around social spending, defence, and growth initiatives. This fiscal tightening bias matters for markets because it influences how aggressively the Bank of Japan can normalise policy.”

So you then have broader fiscal sustainability concerns, which kick long-dated yields higher, with the 30yr the typical benchmark where economic viability concerns are expressed. Even if the BOJ caps front-end rates, the long end remains the release valve.

At the same time, fiscal expansion weakens the yen through both relative-rate and confidence channels. Higher domestic yields driven by fiscal stress are not automatically yen-supportive if they are perceived as risk-premium driven rather than growth- or productivity-driven.

Markets are interpreting unfunded stimulus in Japan as reinforcing the long-standing mix of rising debt stock. We’d expect data to show capital outflows with Japanese institutions seeking more stable real returns abroad, further weighing on the Yen.

FX Intervention is Coming

We all know the party line. The MoF isn’t bound by a specific level at which to intervene; it depends on the pace and volatility of any move.

So, although a break of 159.00 isn’t the catalyst for intervention today, there are signs that a one-sided sharp move through 160.00 and up to 162.00 in the space of a month could see a trigger for activity, based on the above reasoning, along with a spike in RSI overbought levels and the line in the sand from the 2024 highs.

Japanese officials have escalated their warnings, with Finance Minister Satsuki Katayama publicly stating that she and U.S. Treas Sec Scott Bessent share concerns about the yen’s one-way weakness. So we’ve had a tick in the box for verbal interventions, with these comments implicitly broadening the possibility of joint or at least coordinated action should disorderly conditions deepen.

Deputy Chief Cabinet Secretary Masanao Ozaki has also indicated that authorities stand ready to act if moves become speculative or deviate from economic fundamentals.

Implied ATM options vol is very telling. The one-week gauge hasn’t reacted significantly, while the one-month tenor has shown a larger move. This leads us to conclude that intervention could be on the cards, but the risk of it in the coming days is slim.

The Trade

Being short and waiting for intervention is a high-risk strategy that puts a trader the wrong side of the funding book.

Rather, we’d prefer to sit on our hands and risk missing some limited upside, and then add longs after an intervention bout.

After all, the fundamentals around a clear election victory and the policies that could follow should send USD/JPY higher over the course of 2026, regardless of what ammunition the MoF uses.

APFX.

We already flagged up in December why we felt GBP/USD might top out in Q1, and disagree with some of the bearish views on the Street for 2026 about the US dollar more broadly.

The US government shutdown means the latest set of economic data releases can’t be used to validate a clear bearish thesis, and the monetary policy outlook post-spring (post-Powell) again can’t be validated until further down the line.

Those, along with other reasons, lead us to take the other side of the trade and be moderate USD bulls, at least for Q1.

If you’re new here and want to see our full FX&Rates portfolio and 2025 performance, click here.

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The move is significant because it comes from both legs, namely a move lower in the 10-year Italian bond versus a move higher in the 10-year German equivalent. As such, it points to a growing narrative that previously ‘riskier’ periphery nations in the Eurozone are now much more attractive to own.

On the flipside, infrastructure funding plans in Germany are one factor acting to push up the cost of debt, with other traditional stalwarts like OATs also seeing risk premiums rise.

We think it all sets up nicely for a play to start the year.

If you’re new here and want to see our full FX&Rates portfolio and 2025 performance, click here.

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This fresh leg higher into year-end doesn’t sit too well with us, and although it’s unwise to fight the market, we don’t believe this bid can be sustained for any material period of time. Reasoning ranges from potentially mispriced Bank of England (BoE) rate pricing through to a continued ebbing out of UK growth expectations.

After closing out our long EUR/GBP seagull back on Nov 18th, we don’t have any GBP exposure on the book. We feel there will come a time in the near future to add short GBP expressions.

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At the same time, participants can benefit from carry, with a differential over 100bps only likely to increase over H1.

Time to start adding new positions to the book to carry over into the New Year.

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Lagarde delivered it on Friday. Her speech was the final nudge we needed, as we believe the combination of deteriorating sentiment in the Eurozone and a potential reopening bump for the US economy means our medium-term outlook for EUR/USD is now bearish. It’s time to get short.

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