TL;DR

· Goldman Sachs believes that the recent rise in the yen may not only be driven by expectations of Bank of Japan policy, but market speculation about a shift in asset allocation by the Government Pension Investment Fund (GPIF) could become a more sustained flow variable.

· If GPIF raises the share of Japanese domestic fixed-income assets by 5 percentage points, based on its approximately $2 trillion in assets, this could correspond to about $100 billion in dollar-yen selling.

· This scale is close to half of Japan's annual current account surplus, enough to significantly alter Japan's cross-border capital flows and potentially prompt other institutional investors to follow with repatriation.

· Structural yen appreciation typically drives appreciation in Asian currencies, with the Korean won having the highest historical correlation with the yen, followed by the Thai baht, Singapore dollar, and Malaysian ringgit.

· But the Korean won has already strengthened notably recently, and if the National Pension Service reduces foreign exchange hedging, it could reintroduce dollar buying and limit further won appreciation.

· Goldman Sachs is more optimistic about the New Taiwan dollar capturing the spillover effects of yen appreciation, believing its strong current account and resilient tech stocks will support gradual appreciation.

· Among South Asian currencies, Goldman Sachs remains bearish on the Philippine peso, and believes that even if the Thai baht rises in the short term alongside the yen, it may be constrained by Bank of Thailand intervention.

· Strategically, Goldman Sachs recommends expressing a bullish yen view through dollar-yen put options, while betting on a combination of a stronger yen and limited won appreciation.

From central bank rate hike expectations to pension fund repatriation

Since September, the yen has appreciated by more than 4% cumulatively. On the surface, the main driver has come from more hawkish policy signals from the Bank of Japan; but Goldman Sachs believes another variable that may be underestimated by the market is reports that GPIF held an emergency meeting on August 21.

The market has since begun speculating that this one of the world's largest public pension funds may readjust its asset allocation and increase the weighting of Japanese domestic assets, especially domestic fixed-income assets. If this change ultimately materializes, its significance will not be just a pension reallocation, but may also alter the medium-term path of dollar-yen from a capital flow perspective.

GPIF's allocation changes over the past decade or so were once an important backdrop for yen capital outflows. In 2012, its Japanese domestic fixed-income asset share was about 67%; as the fund gradually shifted to an allocation framework of 25% each in domestic bonds, domestic equities, overseas bonds, and overseas equities, that proportion had fallen to 25% by 2020. During this period, Japanese government bond yields continued to decline, which also weakened the appeal of domestic bonds for long-term funds.

Now, as the Bank of Japan advances monetary policy normalization and Japanese government bond yields recover, the conditions for GPIF to reallocate to domestic bonds are taking shape.

According to Goldman Sachs estimates, GPIF currently manages about $2 trillion in assets. If its domestic fixed-income allocation were raised by 5 percentage points, that would mean about $100 billion in funds would need to shift into Japanese assets and could generate a corresponding scale of dollar-yen selling.

That amount is equivalent to nearly half of Japan's roughly $210 billion annual current account surplus, and is also significantly higher than the roughly $35 billion net current and financial account flows in 2025. In other words, even if GPIF carries out only a not particularly aggressive rebalancing, it would be enough to significantly alter the original structure of fund supply and demand in Japan's foreign exchange market.

More importantly, GPIF often has a policy and allocation demonstration effect. Once it raises the weight of domestic assets, other Japanese pension funds, insurance companies, and long-term institutions may also follow suit. After the yen strengthens as a result, it could also trigger financial institutions and the corporate sector to unwind the yen-funded carry trades accumulated over the past several years, further amplifying exchange rate volatility.

For the bond market, $100 billion is likewise not a small number, equivalent to more than half of the roughly $190 billion in net Japanese government bond issuance this fiscal year. However, Goldman Sachs judges that its impact on the bond market may be weaker than on the foreign exchange market: the Bank of Japan is still in a rate-hiking cycle, fiscal expansion is also continuing, and the new demand for funds may not be enough to fully offset government bond supply and upward pressure on interest rates.

Yen appreciation will spill over into Asia, but the impact will be uneven

The yen is usually an important pricing anchor for Asia's exchange rate system. Using data since 2022, Goldman Sachs regressed the yields of major Asian currencies against the yen and found that the South Korean won has the highest sensitivity to the yen, with a beta of about 0.45; the Thai baht is 0.39; the Singapore dollar and Malaysian ringgit are about 0.29; the Philippine peso, offshore renminbi, and New Taiwan dollar are about 0.2; and the Indonesian rupiah is about 0.14. The Indian rupee and Hong Kong dollar have relatively weak historical linkages with the yen.

This means that if the yen enters a period of sustained appreciation, currencies such as the South Korean won, Thai baht, and Singapore dollar will usually also come under some appreciation pressure. However, Goldman Sachs cautions that historical betas can only illustrate past linkage relationships, and current policies and capital flows in various countries are causing clear divergence.

The South Korean won is the most typical example.

Since July, exporter settlement conversions, the SK Hynix ADR conversion, and the unwinding of some foreign exchange hedges after the South Korean stock market decline have jointly pushed the won to outperform other Asian currencies. At present, USD/KRW has reached around 1350, and Goldman Sachs believes that recent signals from the South Korean government indicate that the authorities may already be basically satisfied with the current won level, and their willingness to continue pushing for rapid won appreciation is weakening.

One significant change comes from South Korea's National Pension Service (NPS). According to reports, as the USD/KRW exchange rate declines, NPS has suspended some of its foreign exchange hedging. Goldman Sachs estimates that NPS's overseas investments total approximately $700 billion, with an overall FX hedge ratio of about 7%. If the hedge ratio drops from 7% to 2%, it may need to unwind approximately $35 billion in hedged positions.

Unwinding hedges is not conducive to further KRW appreciation. As the relevant FX swaps mature, NPS will need to buy dollars in the market; after halting strategic hedging, its monthly $4 billion to $5 billion in dollar purchases to fund overseas investments will also re-enter the market.

At the same time, South Korea's monthly export settlement selling of approximately $26 billion still needs to contend with capital outflows from direct investment, pension overseas allocation, residents purchasing overseas stocks, and foreign capital withdrawing from the Korean stock market. Goldman Sachs estimates that South Korea's short-term net FX surplus is approximately $9.5 billion to $13.5 billion per month, but this buffer has already narrowed significantly compared to before.

Therefore, even if the yen continues to appreciate, the won may not necessarily sustain its previous pace of gains. If USD/KRW breaks below 1300, Goldman Sachs expects the Bank of Korea may resume accumulating foreign exchange reserves, thereby further limiting the won's upside.

The New Taiwan Dollar may become a more direct beneficiary

Compared to the Korean won, Goldman Sachs is more bullish on the New Taiwan Dollar capturing the spillover effects of yen appreciation.

The New Taiwan Dollar had previously lagged notably behind the yen and the won, but Taiwan still has a strong current account surplus, and its real economy sector also holds substantial long dollar positions. If the yen continues to rise and tech stocks remain resilient, corporate and institutional dollar positions may gradually convert, driving the New Taiwan Dollar to appreciate along a slower but sustained path.

Goldman Sachs therefore continues to recommend shorting offshore RMB against the New Taiwan Dollar, i.e., betting on the New Taiwan Dollar strengthening relative to the RMB. Its core judgment is that under the current policy and capital flow environment, yen appreciation may have a greater driving effect on the New Taiwan Dollar than on the RMB.

The Thai baht may also see a tactical rally driven by yen strength, but the upside may be limited. Goldman Sachs expects that when USD/THB approaches 32.50, the Bank of Thailand may strengthen FX intervention. The reason is that Thailand's economic recovery still shows a pronounced "K-shaped" divergence, and excessive baht appreciation would further undermine the competitiveness of the tourism and export sectors.

Regarding the Philippine peso, Goldman Sachs remains bearish and favors going long INR/PHP. Although falling oil prices or a rapid yen rally could cause the peso to outperform the Indian rupee in the short term, Goldman Sachs believes such rebounds are better used as opportunities to build short peso positions.

How Does Goldman Sachs Trade a Structural Yen Appreciation?

Around this judgment, Goldman Sachs proposed two options strategies.

The first is buying six-month USD/JPY 140 binary put options. At the time the report was published, the USD/JPY spot rate was around 153.2, and the option was quoted at about 12.5%. This strategy bets that USD/JPY will fall below 140 within the term, meaning a relatively large appreciation of the yen, with the maximum loss limited to the premium paid.

The second is buying six-month double binary options, with trigger conditions of USD/JPY below 142.5 and USD/KRW above 1275. The logic is to bet on a clear appreciation of the yen, while the won's appreciation remains relatively limited due to the NPS unwinding of hedges, overseas investment demand for dollars, and policy intervention. The option was quoted at about 10%, with the risk likewise limited to the premium.

Overall, Goldman Sachs' judgment is not simply a bet that the Bank of Japan will continue raising rates. The more critical variable is whether the recovery in domestic Japanese yields will prompt long-term institutions such as GPIF to reallocate toward domestic assets. Once the flow of pension funds changes, the yen may shift from a temporary rebound driven by policy expectations to a structural appreciation supported by real capital repatriation.

For Asian markets, this will also not be a uniform currency rally. The New Taiwan dollar may receive more direct support from capital flows, the won is near the boundary of policy tolerance, the Thai baht faces central bank intervention, and the renminbi's reaction may be relatively moderate. If the yen truly enters a phase of structural appreciation, the core trade in Asian foreign exchange markets will gradually shift from "whether to follow the rally" to "which currencies can sustain the rally."

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