The reason why Japan's announcement of an interest rate hike has affected global risk markets is that it marks the end of an era and influences the underlying logic of global capital flows.
It all started with the decades-long story of the "cheap yen".
For a long period, the Bank of Japan locked interest rates at near zero, and even implemented negative interest rate policies at times. This made the yen the cheapest and most readily available source of funds in the global financial market. Savvy international investors and financial institutions seized this opportunity, creating a massive trading strategy – the "Yen Carry Trade".
They borrowed massive amounts of Japanese yen at extremely low costs, then converted these yen into US dollars or other high-interest currencies and invested them in all kinds of "risky assets" around the world that could generate high returns, including US stocks, European high-yield bonds, emerging market funds, and even rapidly growing cryptocurrencies. The yen acted like a continuously flowing, cheap spring, fueling the global asset bubble and driving up the prices of these risky assets.
However, when the Bank of Japan announced the start of its interest rate hike program, even a small increase, this seemingly perfect "free lunch" trading model immediately faced collapse.
A rate hike signals a "close-out warning" for arbitrage trades.
Once the cost of borrowing yen rises, the profit margin for arbitrage trading is squeezed, and it may even turn into a loss. More importantly, the market begins to anticipate an appreciation of the yen. For investors who have borrowed yen, a stronger yen means they will need to exchange more dollars or euros for yen in the future to repay their initial loans, resulting in significant exchange rate losses.
Faced with this risk, they had to scramble to "escape." To repay their yen debts, investors were forced to massively and simultaneously sell off their holdings of global risky assets—whether it was US tech giants, emerging market bonds, or Bitcoin. This sell-off, undertaken to raise funds, led to a sharp decline in global risky asset prices and a dramatic increase in market volatility.
Furthermore, Japan's status as the world's largest net creditor nation amplifies its influence. Japanese pension funds and insurance companies hold trillions of dollars in overseas stocks and bonds. If domestic interest rates rise and expectations of yen appreciation strengthen, these massive amounts of capital will be drawn back to Japan , as domestic assets become more attractive. This leads to a significant reduction in previously flowing "external liquidity" globally , effectively withdrawing a large amount of capital from global markets. This makes future market rebounds more difficult during periods of volatility, and valuations must shift from past "capital-driven" assessments to a more rigorous evaluation based on "corporate fundamentals."
Therefore, Japan's move to raise interest rates is not only an adjustment of domestic policy, but also more like flipping a key card on the global financial system table, forcing all risky assets to face an era where capital is no longer cheap.
