Citibank Sees Long-Term Yen Appreciation on Improved Capital Flows

The Japanese yen is poised for a long-term shift from depreciation to appreciation, driven by the most significant improvement in its supply-demand fundamentals since 2019, according to a new analysis from Citibank.

Capital Flows Signal Turning Point

Citibank analysts reported that Japan's balance of payments data for the second quarter showed a marked improvement in the yen's supply and demand dynamics. This shift is primarily attributed to robust capital inflows from foreign investors into the Japanese stock market.

According to the bank, this trend has been developing since late last year. While yen purchases saw a temporary dip in the first quarter due to fiscal year-end position adjustments in March, inflows from foreign investors rebounded strongly in the second quarter. At the same time, outward securities investment from Japan has remained subdued, further strengthening the yen's fundamental position.

Near-Term Headwinds Persist

Despite the positive underlying trend, the yen has remained weak against the U.S. dollar this year. Citibank identified two key factors exerting downward pressure on the currency.

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First, foreign investors have been hedging their exposure to rising Japanese stock prices, a practice that involves selling yen. Second, there has been consistent, long-term demand for U.S. dollars from Japanese small and medium-sized enterprises for their own hedging purposes. These two forces have combined to push the USD/JPY exchange rate higher in the near term.

Market Forecast

Looking ahead, Citibank projects that these near-term pressures will keep the currency pair within a specific range. The bank's analysts expect the USD/JPY to trade between ¥155 and ¥160 by the end of the year.

This forecast suggests that while the fundamental case for a stronger yen is building, the currency may continue to face resistance before the long-term appreciation trend takes hold.