The USD/JPY exchange rate has been changing since the announcement of a trade deal between the US and Japan. Initially, the Japanese yen rose after the news but then fell, only to rise again before finally settling lower as traders assess the situation. Meanwhile, the Nikkei index jumped more than 3%, and Japanese bond yields also increased. The Nikkei’s rise reflects relief over potential trade agreements, and the rise in bond yields hints at expectations for possible rate hikes by the Bank of Japan. **Factors Influencing The Japanese Yen** The movement of the Japanese yen is affected by several factors. Short-term Japanese Government Bond yields are rising, which supports expectations for the Bank of Japan. However, political uncertainties complicate things, impacting how the yen performs. Prime Minister Ishiba’s position is unclear, and the trade deal is seen as an effort to tackle political challenges. The trade deal requires Japan to make concessions in agriculture, specifically by accepting more US rice, which is different from its previous stance. There is uncertainty about whether the National Diet will approve this deal. This uncertainty might make yen traders cautious, as the deal’s future and Ishiba’s political situation are still unknown. Given the mixed reactions in USD/JPY, we think this indicates a time of high volatility rather than a clear trend. Conflicting factors—a possibly aggressive central bank versus significant political instability—create an uncertain environment. Traders in derivatives should consider strategies that profit from price movements, regardless of whether they go up or down. Arguments for a stronger yen are gaining statistical support, which could cause sharp declines in the currency pair. For example, the 2-year Japanese government bond yield recently reached a multi-year high above 0.3%, suggesting a likely policy change from the Bank of Japan, the highest probability in over ten years. If political fears decrease, this could lead to a rapid rise in the yen. **Political Risks And Market Strategies** Conversely, the political risks holding back the yen are significant and measurable. Recent polls from sources like Kyodo News show the current prime minister’s cabinet approval rating has dropped to a record low of about 22%. This unpopularity raises concerns that his trade deal may not receive support, potentially creating a political void and weakening the currency. Therefore, we suggest that traders consider using options to establish positions that benefit from a significant price swing in the coming weeks. Unlike a futures contract, this approach doesn’t require a precise prediction of market direction. It capitalizes on the uncertainty evident in the current market conditions. One specific strategy is a long straddle, involving buying both a call and a put option with the same strike price and expiration date. This strategy becomes profitable if USD/JPY makes a significant move either up or down, enough to cover the cost of the options. This trade is set up for a breakout from the current unpredictable pattern. Historically, political events in Tokyo have triggered significant JPY volatility. For instance, when the previous prime minister announced his resignation in August 2020, the yen strengthened nearly 2% against the dollar in just two days due to market reactions to the uncertainty. We anticipate a similar—if not greater—response depending on the outcome of the current political situation. The key event to monitor will be the ratification process for the trade deal in the National Diet. Smooth approval could lead to a return of yen strength based on economic fundamentals, while rejection could spark a political crisis and a sharp downturn. This binary outcome creates an environment where volatility-based strategies can be particularly effective. Create your live VT Markets account and start trading now.

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