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Japan's yen is about to get pummeled—even more

Japanese foreign exchange dealer, yen falling
Yuriko Nakao | Bloomberg | Getty Images

The Bank of Japan just lit a fire under the already-hot dollar-yen trade.

A surprise move Friday to supercharge the central bank's quantitative easing program sent the yen tumbling as much as 2.5 percent to a six-year low of 111.89 against the dollar.

That's on top of an 11 percent fall in the last year, driven by easy policy in Japan implemented to fight deflation and a sluggish economy, setback even further by a planned increase in the nation's consumption tax.

Read MoreNext stop for dollar-yen: 120?

"There is a risk that conversion of deflationary mindset, which has so far been progressing steadily, might be delayed," according to BOJ Gov. Haruhiko Kuroda at Friday's press conference.

Pros say the currency move is far from over.

The latest salvo in the currency war: The BOJ upped its expansion of the monetary base to $720 billion annually from $534 billion to $623 billion before, two days after the Federal Reserve ended its quantitative easing program.

In other words it added more firepower to its bazooka, at the exact moment the Fed is putting its away. For currency traders, who trade on monetary policy divergences and interest rate differentials, it's an opportunity of a lifetime.

"The scale of buying was already unprecedented and the faster pace now means that by the end of 2015 ... the total size of assets on the balance sheet of the BOJ could increase to about JPY 380 trillion," wrote Derek Halpenny, European head of global markets research at Bank of Tokyo Mitsubishi.

"The figure as it stands now is already over 50 percent of Japan's nominal GDP and this is now expected to move up to around 75 percent. That is extraordinary and unprecedented."

Read MoreTrader likens Japan stimulus to Bear Stearns event

It's also a powerful signal that Kuroda is prepared to do "whatever it takes," as fellow central banker Mario Draghi famously promised in reference to the European debt crisis.

The market takeaway couldn't be clearer:

"The yen's status as the best funding currency has been further secured," Alan Ruskin, chief FX strategist at Deutsche Bank, wrote.

The dollar, on the other hand, is moving the opposite direction, and not just against the yen.

The dollar index, which includes the U.S. currency's value against the euro and other major trading partners, has run up to a four-year high.

Bullish dollar wagers in the futures market currently stand at $44 billion, a record high, according to weekly CFTC data. Traders are holding long positions on the dollar versus the euro, yen, Australian dollar, Swiss franc, Canadian dollar, Mexican peso, British pound and New Zealand dollar.

It's all about the strength in the U.S. economy and the relatively faster track to tightening policy of the Fed, compared with other central banks around the globe.

"While the BOJ had been conducting an accommodative monetary policy, the timing of this announcement was a surprise and is another big step in that same direction, joining the ECB and Sweden most recently, and is another contrast with the direction the Fed is taking, which will likely keep downward pressure on the yen," wrote Carl Forcheski, Societe Generale director, corporate FX sales America.

So how high could dollar-yen run?

Read MoreCheck what currency markets are doing

"As far as the USD/JPY is concerned, this definitely brings the 115 level onto the radar screen. We are also watching the psychologically important 1.2500 level in EUR/USD, which if or when breaks is likely to result in another big leg down in the single currency," wrote Forcheski.

After Friday's announcement, Jens Nordvig, a managing director and head of fixed income and currency strategy at Nomura, revised his trading target for dollar-yen in the near term from 112 to 115 by the fourth quarter of this year.

Another reason strategists say there's more scope for yen weakness against the dollar—positioning isn't extreme. In other words, while weekly futures data show expectations for the dollar to strengthen against the yen, it's not as overwhelmingly popular of a bet as it was in the past, partly because the Japanese authorities have been talking about negative consequences of the weaker yen.

"The BOJ did a remarkable job of not letting on their intentions ... successfully talking the yen stronger in the weeks before the meeting. ... The result is positioning was remarkably light," Ruskin wrote.

In fact, leading up to this meeting, bearish yen positions had been cut to $7.8 billion, after declining for four weeks straight.

"The changes in sentiment underscore the extent to which the subsequent BOJ policy announcement was unanticipated by market participants," Scotiabank strategist Camilla Sutton wrote in a report.


"To the extent there were long dollar-yen positions, many had barriers to cheapen up dollar-calls on a view that the move would be slow," Ruskin wrote. "That creates more scope for dollar-yen upside, on the hedging of barriers. It also fits with ideas from Tokyo that Japanese investors and corporates did not buy the recent dip significantly and are likely to chase the market now."

Beyond a weaker yen, the Bank of Japan's move could force other central banks to act in order to weaken their currencies, in this low-growth environment.

"No doubt this caught the attention of the ECB, who will not likely be happy with the euro's big move higher vs the yen today in the cross, as too strong a euro-yen cross has such a negative impact on German and eurzone exports," wrote Forcheski.

So what does all the currency action mean for stocks?

The stimulus jolt certainly propelled global stocks higher Friday on the announcement, with the S&P 500 and Dow Jones industrial average closing the week at record highs. In Japan overnight, it fueled a 4.8 percent rally for Nikkei 225 to a seven-year high.

Many are wondering, can Japan's central bank do the heavy lifting that the Fed has done in the past for global markets?

"In general we would answer no, but actions today have multiweek run. ... This all works with the risk melt-up story into year-end led by the S&P and now the Nikkei," according to Ruskin.

"The announcement by the Bank of Japan that it was adding to its purchase programs is a clear positive for the stock market that had been largely unexpected," said Tobias Levkovich, chief U.S. equity strategist at Citigroup.

"Additionally the decision by the Japanese pension fund to bump its holdings of foreign stocks to 25 percent of its monetary base establishes a new incremental buyer of shares and the U.S. should be a significant beneficiary. These new developments were not part of the Street's mindset a day ago and thus cannot be discounted as a flash in the pan since it provides some downside support to the broad market."

The ultimate question market watchers are contemplating: If Japan does manage to boost equity prices and weaken the yen successfully, as predicted, does that mean it will help Japan end its deflationary malaise and help boost its economy?

The jury is out on that.

Read MoreIs a new currency war about to start?

Most economists, traders and strategists are far less certain about whether it will cure Japan's economic ills, than they are about how to trade the policy:

Don't fight the Bank of Japan!