Brown Brothers Harriman flagged a risk that the Bank of Korea could lean hawkish even if it keeps the policy rate unchanged at 2.50%, which would mark an eighth consecutive hold. The focus is the Korean won, as authorities have drawn attention to recent weakness and left open the prospect of action if moves extend.
Since the start of the Iran war on 28 February, the won has been the fourth worst performing currency, a move linked to South Korea’s negative net energy balance. South Korean FX officials last week described the drop as “excessive relative to economic fundamentals”, and said they would take decisive action if necessary, while the swaps curve prices nearly 125 bps of rate hikes over the next 12 months.
Won Weakness and Inflation Risks Set the Stage
We expect the Bank of Korea to hold its policy rate at 2.50%, but the Korean Won’s slide towards the 1370 level against the dollar creates a tense backdrop. The risk of a hawkish surprise to defend the currency is now the market’s primary focus. This makes the upcoming policy meeting a major event for currency traders.
South Korea’s heavy reliance on energy imports is the core of the problem, with Brent crude prices holding stubbornly above $90 a barrel. This has a direct negative impact on the country’s trade balance and fuels the Won’s weakness. As of early May 2026, foreign investors have been net sellers of Korean equities for three consecutive weeks, adding to the pressure.
The Bank of Korea has justification to act, as the latest CPI data for April 2026 registered at 3.1%, remaining well above its 2% target. This persistent inflation gives policymakers cover to raise rates if they choose to prioritize currency stability. Their recent verbal warnings about the Won’s “excessive” drop should be taken seriously as a potential signal for action.
Markets Brace for Hawkish Policy Shift
Given this setup, we believe traders should consider positioning for a spike in volatility. Implied volatility on one-month USD/KRW options has already risen to a six-month high, suggesting the market is bracing for a significant move. Buying KRW call options or USD/KRW put options offers a direct way to profit from a potential hawkish policy shock.
This situation echoes the central bank’s response in late 2022, when decisive action was taken to defend the Won after it breached the 1400 level. The swaps market is telegraphing a similar playbook now, with nearly 125 basis points of rate hikes priced in over the next twelve months. We see this as a clear indicator that the market expects the Bank of Korea to act forcefully sooner rather than later.
