Why the Yen Carry Unwind of 2026 Could Be Three Times Larger Than the One That Rattled Markets Last Year

For years, Wall Street traders have used a proverb that serves as a warning: “First they carry you in, and then they carry you out.” It sounds almost comical until you realize what it describes: the silent build-up of a currency trade that is so massive and intricately linked to worldwide capital flows that, when it finally reverses, entire markets may become unstable in a matter of hours. The risk that is currently developing around the Japanese yen is precisely that. And that reversal is beginning to appear less like a far-off scenario and more like a question of when in early 2026, with the Bank of Japan raising rates while the Federal Reserve holds and the dollar hovering near crucial thresholds against the yen.

The majority of market watchers recall what transpired in the summer of 2024. The yen skyrocketed after the Bank of Japan shocked investors with a rate increase, and carry trades—positions based on borrowing cheaply in yen and using that money to invest in higher-yielding assets overseas—started to quickly unwind. In just a few days, the Nikkei dropped by about 12%. The sell-off of global stocks was abrupt and confusing. For readers who had never heard the term “carry trade” before, analysts hurried to explain it. The markets bounced back rather quickly, and many observers surreptitiously concluded that the incident was over—a one-time shock that had already been processed. The assessment may have been overly optimistic.

The trade has continued to expand. In an early 2026 note, BCA Research calculated that as of October 2025, the outstanding value of yen forwards held by major trading companies and international hedge funds was ¥35 trillion. The total comes to ¥2,281 trillion when currency and FX swaps are taken into account. That is a startling figure, and it reflects positions based on the same basic idea: take out low-interest loans in yen and invest elsewhere to earn higher returns. One senior strategist described the 2024 shock as “an abbreviated move.” The structural imbalance that persists indicates that the main event might be significantly bigger if that was the preview.

The fundamental economics of the trade itself have evolved since then. Japan’s interest rates were essentially at zero or lower for many years, and there was hardly any inflation. Starting in 2016, the Bank of Japan implemented a yield curve control strategy, maintaining a negative short-term rate and aiming for a 10-year government bond yield that was almost zero percent. Because of those circumstances, borrowing in yen became nearly irresistibly affordable. From asset managers in Singapore to hedge funds in Greenwich, investors poured into the plan. Because of Japan’s protracted deflation, everything seemed steady, even unchanging.

That was altered by inflation. The political landscape has changed as well, with Prime Minister Sanae Takaichi’s government pursuing a more expansionary budget. Japanese consumer prices have been hovering around three percent, which is higher than the BOJ’s two percent target. In response, the Bank of Japan has been normalizing policy and raising interest rates while the Federal Reserve has been cutting. That difference is very important. The yen, which most analysts believe is undervalued by fifteen to twenty percent, is under pressure to rise as the interest rate spread that made the carry trade so alluring for years narrows. The math of the trade quickly turns against you when a currency you’ve borrowed in begins to rise.

Long-term bond yields in Japan have already changed significantly. Since the beginning of the year, the yield on a 10-year Japanese government bond has increased by about 100 basis points, currently standing at 1.95 percent. At levels not seen in 20 years, the 30-year yield is close to 3.95 percent. Because of this increase, Japanese bonds are now significantly more appealing than US Treasury bonds, whose yields have hardly changed. Japanese institutional investors have historically repatriated capital in response to precisely this type of interest rate convergence. And when they do, they purchase yen and sell overseas assets. Each stage of that process raises the value of the yen, which puts pressure on any remaining carry trade positions and necessitates additional selling.

Those who closely monitor this are concerned because the cycle has the potential to become self-reinforcing. Contrary to popular belief, BCA Research’s analysts contended that the unwind won’t be solely caused by rising Japanese rates. Rather, they cited past instances in 2008, 2015, and 2020 where carry trades failed mainly due to the depreciation of the assets financed by yen borrowing. It’s not always “BOJ hikes, yen rises, positions unwind.” Sometimes it goes the other way: carry trade unwinding increases the damage on the way down, and risk assets fall first. Instead of being the initial cause of the fire, the yen-funded positions serve as fuel for a larger one.

The dollar-yen rate was perilously close to the 160 threshold at which Japanese authorities intervened in 2024 by late March 2026. The government of Japan is ready to take action “on all fronts” to combat speculative yen volatility, according to Finance Minister Satsuki Katayama. Given that Japan imports about 90% of its oil from the Middle East, rising oil prices were adding to the strain. Any protracted hostilities in the area could increase Japanese inflation and force the BOJ to tighten policy more quickly. The number of pressure points that are converging at once is difficult to ignore.

All of this has a timing issue for the United States. Due to recent tax cuts, the US government’s annual budget deficit has increased to about two trillion dollars. Japan has long held significant amounts of US Treasury bonds, making it one of America’s biggest foreign creditors. The US faces unwelcome upward pressure on its own long-term rates at the wrong time if Japanese institutions are selling Treasury bonds in order to bring money home and purchase yen. Increased borrowing costs throughout the economy could result from higher Treasury yields, which could also puncture asset valuations that have significantly increased on the presumption of relatively cheap credit.

As this develops, it appears that markets have taken in the shock of 2024 and moved on without fully considering what it revealed. The trade that partially unraveled in August of last year didn’t go away; instead, it expanded. If anything, the structural circumstances that enabled the first episode have gotten worse rather than better. According to BCA Research, “Once the yen begins appreciating, the move is likely to be outsized given how large the YCT has become.” Depending on what is counted, estimates of the total carry trade size vary from four trillion dollars to fourteen trillion dollars. The potential for disruption, even at the lower end, is far greater than what the markets went through in the summer of 2024. It was like a tremor in 2024. The fact that the underlying plate movement never truly stopped is now a cause for concern.