Global Deleveraging Scares: Yen Carry Trade Unwind, Risk-Off Mood and How It Hits Indian Equities

As global liquidity quietly tightens one of the world’s most crowded trades, the yen carry trade is beginning to unwind. What looks like a distant currency adjustment is in reality, a powerful deleveraging force that reshapes capital flows, risk appetite and equity valuations across emerging markets including India. This story examines how a strengthening yen, rising global volatility and risk-off behaviour are colliding and what it means for Indian equities in 2026 and beyond. [EasyDNNnews:PaidContentStart]

Markets do not usually crack because of headlines. They crack when liquidity conditions change quietly beneath the surface. In early 2026, global investors were confronted with a familiar yet unsettling pattern. Asian equities weakened without a clear trigger. Developed market indices oscillated nervously despite steady earnings. Volatility rose in pockets rather than in one dramatic spike. Emerging market currencies softened. Indian equities despite resilient domestic growth indicators began showing stress, particularly in mid and Small-Cap segments. 

There was no global recession announcement. No systemic Banking failure. No sudden collapse in corporate profitability. Yet risk appetite faded almost simultaneously across regions. T he common thread was not macroeconomic deterioration, but the unwinding of leverage embedded deep within the global financial system. At the centre of this process sat one of the most influential and least discussed mechanisms of global capital flow: the yen carry trade. 

For over two decades, the yen carry trade acted as a silent accelerant of global risk taking. It funded everything from U.S. technology stocks and European credit to emerging market equities and commodities. As long as Japanese interest rates remained near zero and the yen stayed weak, the strategy worked seamlessly. Capital flowed freely, volatility stayed suppressed, and leverage accumulated quietly. That equilibrium is now shifting. 

As Japan steps away from its era of ultra-loose monetary policy the cost of funding global risk positions is rising. The result is not panic, but global deleveraging a gradual yet powerful withdrawal of capital from risk assets. This shift is forcing markets to reprice not just earnings, but liquidity itself. For Indian equities, the implication is nuanced. Long-term fundamentals remain intact. Domestic demand is strong. Corporate balance sheets are healthier than in past cycles. Yet in the short to medium term, India remains exposed to global risk off phases driven by funding dynamics rather than domestic weakness. 

This story examines the mechanics of the yen carry trade the structural reasons behind it unwind the broader risk-off environment it creates and how these forces transmit into Indian equity markets. More importantly, it explores what investors must understand about global deleveraging in a world where process, not prediction, will define outcomes between 2026 and 2030. 

The Yen Carry Trade: How Cheap Japanese Money Powered Global Risk

To understand the current stress, one must first understand how deeply the yen carry trade became embedded in global markets. 

Interest Rate Foundations: From Zero to Normalisation - For most of the last 25 years, Japan operated under an extraordinary monetary regime. Following the collapse of its asset bubble in the early 1990s, the Bank of Japan (BoJ) kept interest rates near zero for decades in an attempt to revive domestic growth and prevent deflation. 

By the mid-2010s, this policy became even more extreme. The BoJ introduced negative interest rates, pushing short-term policy rates to –0.10 per cent, while simultaneously implementing Yield Curve Control (YCC) to cap long-term government bond yields around zero. In practical terms, this meant global investors could borrow in yen at close to zero cost, sometimes even earning a small benefit after hedging adjustments. In contrast, U.S. interest rates ranged between 2 per cent–5 per cent, while emerging market assets offered yields far higher. 

This created a powerful incentive: borrow yen cheaply, convert it into dollars or other currencies, and invest in higher return assets abroad. The profit came from the interest rate differential, amplified through leverage. At its peak, the global yen carry trade was estimated to run into several trillion dollars, spread across asset classes. Crucially, this leverage was not visible in any single dataset. It was distributed across hedge funds, asset managers, proprietary desks and structured products. 

Why the Trade Worked for So Long - The carry trade thrived because three conditions held simultaneously: 

First, Japanese rates remained anchored near zero. From 2016 through 2024, policy rates stayed negative and ten-year Japanese government bond yields were capped around zero per cent. Second, the yen weakened structurally. Between 2012 and 2024, USD/JPY moved from roughly 80 to above 160, a depreciation of nearly 50 per cent. A weak yen reduced the repayment burden of carry trades. Third, global volatility remained low. Central bank liquidity, quantitative easing and stable inflation suppressed volatility, allowing leveraged positions to remain profitable. This combination encouraged investors to extend leverage, roll positions and treat yen funding as a near-permanent feature of global portfolios. 

The Turning Point: Why the Yen Carry Trade Is Unwinding Now Japan’s Policy Shift: From Emergency Mode to Normalisation
The most critical trigger for the current deleveraging scare is Japan’s slow but decisive move away from ultra-loose monetary policy. By 2024–25, Japanese inflation finally showed signs of durability. Wage growth improved. Domestic consumption stabilised. As a result, the BoJ began signalling that emergency level accommodation was no longer appropriate. Key shifts included:

• Policy rate increases from –0.10 per cent to positive territory, initially toward 0.25 per cent, with expectations of further normalisation.
• Relaxation and eventual dismantling of Yield Curve Control, allowing 10-year JGB yields to rise toward 1 per cent and above.
• Explicit communication that policy normalisation would be gradual but persistent.

While these rate levels may appear low by global standards, they represent a dramatic change in funding economics for carry trades built on the assumption of near zero Japanese rates. 

The Shrinking Carry Spread
At the height of the carry trade, investors could borrow yen at nearly zero per cent and invest in U.S. assets yielding 4 per cent–5 per cent, or emerging market assets yielding significantly more. As Japanese rates rise and global rates plateau or fall, this spread narrows. The margin for error shrinks. Leverage becomes riskier. Even small moves in funding costs have outsized effects when positions are leveraged 5x, 10x or more. 

Currency Risk Returns: The Yen Stops Being a Free Option
Just as important as rates is the behaviour of the yen itself. When the yen weakens, carry trades benefit. When it strengthens, losses compound. As Japanese yields rose and global risk sentiment softened, the yen began to appreciate. T his forced investors to confront a scenario long ignored: currency risk. A strengthening yen increases the local currency cost of repaying loans. Even profitable asset positions can turn loss-making when currency moves accelerate. These dynamics force investors to reduce exposure pre-emptively, creating a self-reinforcing cycle of selling. 

Global Deleveraging: How Unwinds Spread Across Markets
Carry trade unwinds rarely remain confined to currency markets. As positions are reduced, investors sell risk assets to generate cash. This triggers declines across equities, credit and commodities. Margin calls exacerbate the process. Liquidity thins. This is global deleveraging, the forced reduction of leverage across the financial system. Importantly, deleveraging does not require panic. It can unfold gradually, driven by risk models and funding constraints. 

Risk-Off Mood: When Capital Preservation Dominates
A risk-off environment is defined not by fear, but by prioritisation. When risk appetite fades, investors rotate away from high beta assets toward perceived safety. Volatility rises. Correlations increase. Liquidity becomes king. 

Transmission to India: Capital Flows and Currency Pressure
India’s integration into global capital markets makes it vulnerable to risk-off phases driven by external funding dynamics. Foreign institutional investors hold meaningful stakes in Indian equities, particularly Large-Cap stocks. When global investors unwind leveraged positions, India often becomes a source of liquidity. During deleveraging phases, FPI outflows increase, exerting pressure on equity prices and the rupee. 

Currency Impact: Rupee vs. Yen
As global investors repatriate funds, demand for foreign currency rises. A rising INR/JPY reflects yen strength and global funding stress, often coinciding with equity volatility. 

Equity Market Impact: Where the Pain Concentrates
Deleveraging rarely affects all segments equally. Historically, midcaps and smallcaps suffer sharper drawdowns due to higher beta and lower liquidity, even when domestic fundamentals remain unchanged. Large-cap defensives tend to outperform on a relative basis. 

India’s Structural Strength: Why This Is Not a Crisis
Despite short-term volatility, India today is structurally stronger than in previous global deleveraging episodes.

• Domestic institutional flows provide a buffer against FPI outflows. n Corporate leverage is lower.
• Banking balance sheets are healthier.
• Growth remains domestically driven.
   

These factors reduce the risk of prolonged damage. 

Investment Implications: Process Over Prediction
Global deleveraging scares will recur. They cannot be timed reliably. What investors can control is process. Portfolios built with diversification, liquidity awareness and realistic return expectations tend to survive these phases far better than those driven by leverage or narrative conviction. 

Conclusion
The yen carry trade unwind is not an isolated event. It is a reminder that global markets remain interconnected through funding channels that transcend borders. As liquidity tightens and leverage retreats, volatility will surface not because growth has vanished, but because capital is being repriced. For Indian equities, the message is clear: short-term turbulence does not negate long-term opportunity. But navigating  the years ahead will demand discipline, patience and respect for global liquidity cycles. Between 2026 and 2030, markets are likely to reward investors who understand structure over sentiment, process over prediction and resilience over speed.
 

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