Unless you’ve been living under a rock, by now you’re surely familiar with the hit mobile game Pokémon Go. But while researching the opportunities around this Japanese-born gaming phenomenon, I have been looking at the broader story of the nation’s stock market and its currency.
The current scenario for Japan looks much like the end of 2012 — right before the massive economic plan known as “Abenomics” juiced the Japanese stock market. A recent Citigroup survey of investors and clients had about 70% of those surveyed responding with expectations of easier monetary policy coming out of the upcoming Bank of Japan meeting July 28-29.
The easing could give Japan’s markets a big shot in the arm, although traders weren’t buying that prospect on Tuesday — the Nikkei 225 Index NIK, -1.43% slumped and the yen surged on reports that the expected stimulus package would be disappointing.
Hopes were also high in December 2012, when Prime Minister Shinzo Abe won a second term. There was much talk then of “three arrows” to get the stagnant Japanese economy back on track — the easing of monetary policy, fiscal stimulus efforts and structural economic reforms.
Unfortunately, there wasn’t much follow-through. The Nikkei soared from around 10,600 on the first day of trading in 2013 to around 15,700 by May, but the advance was short-lived. And the announcement of a $1.4 trillion bond buying program in spring of 2013 was unprecedented. However, aside from this monetary policy of quantitative easing, the other two arrows never really materialized.
It took three years for Japan to bite the bullet and go negative on interest rates, in January of this year, and that monetary easing seemed to show little result; the yen USDJPY, -1.40% rallied in the first half of 2016.
On the policy front, Abe hasn’t been able to push legislators toward the structural reforms he has hoped for. While there’s talk about cutting corporate taxes and liberalizing industries including energy and health care, progress has been sluggish at best. Despite his own Liberal Democratic Party holding a majority in Japan’s legislature, many lawmakers have vested interests in the existing system and are reluctant to embrace Abe’s plan.
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In fact, the International Monetary Fund recently cut its growth estimate in half for Japan to just 0.5% percent this year — the weakest among G7 nations — and warned deflation could doom the country to growth that is “close to zero by 2030, given the demographic overhang.”
The solution, according to both the IMF and many investors, is for a renewed policy push to fix Japan’s struggling economy.
In truth, policy changes are never easy to come by, and finger wagging from economists is hardly going to be the solution to such entrenched and systemic problems. But as happened in 2013, investors don’t need results; they simply need the promise of a policy shift, and the rise in sentiment that follows.
It’s sad but true, even if you find such behavior naïve. So we can either moralize about this trend, or profit from it. And it seems likely that the market is going to provide a sentiment lift in Japan.
The Bank of Japan stunned the world in April by standing pat on its monetary policy despite a rough start to the year. The Nikkei is down around 14% so far this year through Tuesday, and many are now looking to the upcoming BoJ meeting for a much-anticipated move to prop up the economy in the face of persistent struggles on both inflation and wage growth — or the lack thereof.
Bigger-picture, it’s also worth noting that there aren’t a lot of good alternatives for investors right now. Europe remains in turmoil after the Brexit, the U.S. 10-year Treasury TMUBMUSD10Y, -1.42% at the incredibly low rate of about 1.5%, and many investors are wondering how long U.S. stocks can stay firm amidst the fifth consecutive quarter of earnings declines for the S&P 500 SPX, -0.30% .
If you’re looking for the best vehicles to ride a Japan rally, should it come, consider iShares Currency Hedged MSCI Japan ETF HEWJ, -0.61% — a fund that consists of shares in the more prominent, unhedged iShares MSCI Japan ETF EWJ, -0.34% as well as yen futures. This hedges your gains by protecting you against forex headwinds should the yen weaken and the dollar rise. Consider that in the first six months of 2015, the hedged currency fund was up 32% while its unhedged sister fund was up only 11% as the yen showed weakness.
Even if you are skeptical of the second chapter of Abenomics, or easy-money policies, what’s the alternative for your portfolio? U.S. stocks continue to see stretched valuations as investors scurry for safety in overpriced safe-havens. In an environment like this, without a lot of good alternatives, institutional money will flow rapidly into any opportunity — and increasingly, Japan could be that find.
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