- Structural demographic and economic changes are supporting yen weakness
- 'Tail risk' reduction reduces yen as 'safe haven' and will do so going forward
- Open-ended massive QE programmes ('money printing programmes') support yen weakness
- Buy US$, AUD, NZD against Yen - expect multi-year rally, first target 90 US$-JPY has been met and exceeded. Next target is 105 US$-JPY.
---CLICK ON ABOVE LOGO FOR OUR WEBSITE---
___________________________________________________________________________________
The yen has fallen substantially in the last few months, moving in our favour (please see recommendations in our report 'I think I'm turning Japanese' November 25, 2012) and given the recent wild moves in the commodity markets we thought it was time to take note of what has happened and what we expect to happen next.
Government/BOJ policy:
Structurally, not very much has changed in the Yen story except to say that the Abe/Kuroda reflation programme is much, much, bigger and faster than anyone had expected. The BOJ has vowed to end deflation and in order to achieve this they have embarked upon a massive QE programme, which is twice as big as the US programme since 2008 (measured as proportion of GDP) and is planned to be done in less than half the time. Additionally, it is an open-ended programme which authorities have made dependent upon the success of the programme itself (2% inflation p.a.) and have even stated that they may not stop there. In concrete terms: the BOJ will double the size of the adjusted monetary base to 270tr Yen, will buy bonds and other assets at a rate of around 75bnUS$ per month (so more than 70% of all the bonds they issue) - this is money printing in central bank speak and will help to diminish the value of the yen substantially even from current levels.
The underlying economic factors for a weaker yen are also still in place:
1.) Japan's trade surplus has shrunk substantially and is even in deficit from time to time and will require a weaker Yen to adjust to this new 'normal'.
2.) Japan's savings rate has fallen to perilously low levels, which combined with its ageing population has little chance of returning to its old highs. Combined with increasing debt (which is already above 200% of GDP) which will struggle to be internally financed (without the BOJ that is), will put pressure on the currency.
3.) Increasingly its 'safe haven' status is being diminished as tail risks are being priced out of the markets as we have proclaimed in previous reports (also demonstrated by the low volatility across asset classes).
There are increasingly less reasons for holding savings in yen, especially if the reflation policies work, as that will result in real rates being negative, rather than the positive real rates that savers in Japan have enjoyed for the past two decades. Structural economic arguments, government/BOJ policy and a change in the population are overwhelming factors why the yen should weaken.
What do investors fear about this trade?
1.) If the G20 begins to brand Japan as a currency manipulator and forces Abe/Kuroda to reduce their policies. But since they have held back from calling China that and since Japan is in fact pursuing the same economic policies as the USA and the world requires more reflationary policies, it is hard to see that Japan will not have the full support of the world economic leaders even if there are some noises made to the contrary from time to time. It is also worth noting that the yen-US$ rate before the 2008 crisis was at 110. If it should get to those levels again, it is hard to see how anyone could seriously claim 'currency manipulation'.
2.) If the Abe-Kuroda programme does not work to create inflation. Well, according to Abe they would keep continuing until inflation is created. The programme could be curtailed if the debt burden was simply becoming too much and money en-masse left the country, while additional debt could simply not be financed any more ie if Japan in short imploded. In this scenario the Yen would in the first instance collapse, completely, to levels unheard of and at unprecedented speeds.
3.) If inflation occurs very quickly and the set target is met within 24 months. The BOJ would be reluctant to raise interest rates since they would need to assure themselves that the inflation pick-up was here to stay and was in fact getting built into the psyche of the population again. Savers would either spend more as their real interest rates had just turned negative and/or would move their savings abroad promptly. This internal move out of the country would be the third wave of yen selling which could lead to yen-$ rates of 125 and above.
Conclusions:
We are not very confident about the longer term economic outcome of this monetary experiment but assume that the policies will be able to push Japan out of deflation, at least temporarily. But whatever the outcome, and however good or bad this ends for Japan it seems clear that a weaker, perhaps a much weaker yen lies ahead.
Government/BOJ policy:
Structurally, not very much has changed in the Yen story except to say that the Abe/Kuroda reflation programme is much, much, bigger and faster than anyone had expected. The BOJ has vowed to end deflation and in order to achieve this they have embarked upon a massive QE programme, which is twice as big as the US programme since 2008 (measured as proportion of GDP) and is planned to be done in less than half the time. Additionally, it is an open-ended programme which authorities have made dependent upon the success of the programme itself (2% inflation p.a.) and have even stated that they may not stop there. In concrete terms: the BOJ will double the size of the adjusted monetary base to 270tr Yen, will buy bonds and other assets at a rate of around 75bnUS$ per month (so more than 70% of all the bonds they issue) - this is money printing in central bank speak and will help to diminish the value of the yen substantially even from current levels.
The underlying economic factors for a weaker yen are also still in place:
1.) Japan's trade surplus has shrunk substantially and is even in deficit from time to time and will require a weaker Yen to adjust to this new 'normal'.
2.) Japan's savings rate has fallen to perilously low levels, which combined with its ageing population has little chance of returning to its old highs. Combined with increasing debt (which is already above 200% of GDP) which will struggle to be internally financed (without the BOJ that is), will put pressure on the currency.
3.) Increasingly its 'safe haven' status is being diminished as tail risks are being priced out of the markets as we have proclaimed in previous reports (also demonstrated by the low volatility across asset classes).
There are increasingly less reasons for holding savings in yen, especially if the reflation policies work, as that will result in real rates being negative, rather than the positive real rates that savers in Japan have enjoyed for the past two decades. Structural economic arguments, government/BOJ policy and a change in the population are overwhelming factors why the yen should weaken.
What do investors fear about this trade?
1.) If the G20 begins to brand Japan as a currency manipulator and forces Abe/Kuroda to reduce their policies. But since they have held back from calling China that and since Japan is in fact pursuing the same economic policies as the USA and the world requires more reflationary policies, it is hard to see that Japan will not have the full support of the world economic leaders even if there are some noises made to the contrary from time to time. It is also worth noting that the yen-US$ rate before the 2008 crisis was at 110. If it should get to those levels again, it is hard to see how anyone could seriously claim 'currency manipulation'.
2.) If the Abe-Kuroda programme does not work to create inflation. Well, according to Abe they would keep continuing until inflation is created. The programme could be curtailed if the debt burden was simply becoming too much and money en-masse left the country, while additional debt could simply not be financed any more ie if Japan in short imploded. In this scenario the Yen would in the first instance collapse, completely, to levels unheard of and at unprecedented speeds.
3.) If inflation occurs very quickly and the set target is met within 24 months. The BOJ would be reluctant to raise interest rates since they would need to assure themselves that the inflation pick-up was here to stay and was in fact getting built into the psyche of the population again. Savers would either spend more as their real interest rates had just turned negative and/or would move their savings abroad promptly. This internal move out of the country would be the third wave of yen selling which could lead to yen-$ rates of 125 and above.
Conclusions:
We are not very confident about the longer term economic outcome of this monetary experiment but assume that the policies will be able to push Japan out of deflation, at least temporarily. But whatever the outcome, and however good or bad this ends for Japan it seems clear that a weaker, perhaps a much weaker yen lies ahead.
Disclaimer: This posting is for information purposes only and is not intended as an offer,recommendation or solicitation to buy or sell, nor is it an official confirmation of terms. No representation or warranty is made that this information is complete or accurate. Any views or opinions expressed do not necessarily represent those of Archbridge Capital AG. This information is not intended, tax or legal advice. You also acknowledge that the information should not be construed as a solicitation or offer by Archbridge Capital AG to buy or sell any securities or any other financial instruments or provide any investment advice or service. Unless otherwise stated, any pricing information given in this posting is indicative only, is subject to changes and does not constitute an offer to deal at any price quoted. You should be aware that returns can be volatile and you may lose all or a portion of your investment. Past performance of any investment or trading tool is not necessarily indicative of future performance or results.