The BoJ, the Yen and JGBs

Shinzo Abe, leader of the LDP and widely expected to win the upcoming election in Japan, has gone into full electioneering mode lately. For some reason the markets seem to have latched on to his promises. Imagine that, the markets are trading on what a politician says before an election!

Abe of course is nowadays mainly in the news for his aggressive stance toward the BoJ, which we have previously discussed.

Recently Japan's economic data have suffered a pretty sharp short term downturn, which may be one reason why Abe has decided to take aim at the BoJ (it is also an easy target, there's little political cost involved, or so he figured). This downturn is inter alia so intense due to the recent spat with China over an uninhabited bunch of tiny rocks near Taiwan (to call them 'islands' would be an exaggeration), which has upset trade relations between the two countries and led to a steep fall-off in Japanese sales in and to China. The knock-on effects weren't long in coming, and all sorts of data from machinery orders to retail sales have nosedived.

It should be noted as an aside here that Abe is hardly the man to improve relations with China, given his reported nationalist bent.  But what about his threats to the BoJ?


As Reuters recently reported:

“Japan's main opposition Liberal Democratic Party (LDP) said on Wednesday that on its return to power it would set a 2 percent inflation target with an eye to revising the law governing the Bank of Japan so as to boost cooperation between the government and the central bank.

A Dec. 16 election for Japan's lower house is seen likely to return the long-dominant LDP to power with conservative former Prime Minister Shinzo Abe at the helm.

In its campaign platform unveiled on Wednesday, the LDP called for bold monetary easing through cooperation between the government and the central bank on debt management, but it made no mention of Abe's calls for the BOJ to buy debt to finance infrastructure projects.

The platform also proposed boosting Japan's effective control over disputed islets in the East China Sea while enhancing maritime defense capability.”


(emphasis added)

This has evidently prompted hedge funds as well as individual speculative traders to open a massive short bet on the yen – in fact, it seems to be close to a record high in terms of the yen futures contract.


Widow-Maker Trade Back in Fashion

The JGB short trade (a.k.a., the 'widowmaker') is becoming popular again as well.

The FT reports in this context:

Hedge funds say shorting Japan will work”


And yet, we have been here before. Betting against Japan has been a persistent hedge fund favourite.

David Einhorn, founder of Greenlight Capital, for example, has been short Japan one way or another since 2009, and shorting the yen has been a failed trade for many of the world’s most seasoned macro hedge funds four years running.

As if to underscore the point, Japanese government bond yields reached multi-year lows this week. As SocGen analysts have written, expecting them to rise seems tantamount to “chasing rainbows”.

Jun Ishii, chief fixed-income strategist at Mitsubishi UFJ Morgan Stanley, describes an “unshakeable JGB absorption structure”, whereby the gap between loans and deposits at banks is filled by government bonds. Current data suggest the banks have plenty of room to buy more, he says. “We see no indication at all that the desire to buy JGBs on dips is weakening.”

All of which is not deterring new hedge fund bear converts.

“We believe that things really are now set to shift,” says Christopher Rigg, a life-long Japan expert who runs a new dedicated Japan-short fund at UK-based activist Audley Capital. “We think it is all coming together now.”

Mr Rigg’s thesis is more moderate than Mr Bass’s: he says a catalyst for change will be the Japanese elections, set for December 16, which look set to usher in Shinzo Abe, head of the Liberal Democratic party, as prime minister.

“Abe is defined by his desire for growth,” Mr Rigg notes. “It’s quite obvious that he wants the Bank of Japan to be more aggressive.”

With the governor and two deputy governors of the BoJ set to be replaced early next year, an Abe administration could lead to a permanently more dovish BoJ, Mr Rigg says, which would be likely to break new ground in quantitative easing by buying foreign bonds.”


(emphasis added)

To this it should be noted that while these upcoming appointments may indeed make for a 'more dovish' BoJ, there is no way that Abe can hope to take the central bank's independence away. That is part of the constitution, and it seems doubtful that he will be able to muster a majority big enough to alter the constitution.

Where are BoJ governors coming from? To the extent that they are people drawn from within the central bank's existing bureaucracy, one shouldn't expect them to be very big believers in letting money printing get out of hand. There is a deep-seated anti-inflationary institutional memory reigning at the BoJ, it is perhaps even more pronounced than the German BuBa's (Japan's hyper-inflation experience is still fresher in mind) and there is really no political constituency for inflation in Japan anyway. Why would a graying society with an unemployment rate of 4.2% pine for a ballooning money supply and rising prices?  It just doesn't make much sense, does it? If Japan ever goes over that type of cliff, it likely won't be doing so voluntarily.

But traders evidently believe Abe – by now, Grandma, Grandpa, aunt Emmy, and her dog Freddie are all short the yen. Take a look:



Speculators are betting big against the yen (chart via sentimentrader) – click for better resolution.



Of course one must concede that the trade has worked quite well lately, and the recent move in the yen may still have further to go. Then again, it may not. We are struck by this eagerness to 'catch the turn'. The real turns tend to happen when the bears have given up. They have already amassed such a big short position, but what did they get out of it so far? The recent move is nothing to sneeze at from the point of view of a short term trader of course, but if one looks at a long term chart of the yen, the word that comes to mind is 'blip' – i.e.,  one instinctively starts looking around for the magnifying glass. Of course there is a higher low (or a lower high, actually, but the the yen is traditionally quoted the wrong way around):



The yen over the past decade plus: it may be time for a bigger correction, but so far it has been pretty tame all in all – click for better resolution.



We can understand the fascination the JGB market has for someone looking for  a real hay maker. After all, Japan's public debtberg is of legendary magnitude:



In terms of gross debt to GDP, Japan beats everyone. But there are only very few foreign holders of its debt and the domestic base is still happy to hold it (via the FT)



JGB, continuous futures contract – now you know why they call it the widow-maker. Shorting it has rarely been fruitful – click for better resolution.


Abe Doesn't Really Mean it, Anyway

There is another reason to be a bit distrustful of Abe's pithy full-frontal verbal assault on the BoJ. His own government probably will become more reserved regarding inflationary policies as soon as it occupies the 'ministry of dreadful dreams'.  As one observer noted in a recent Reuters report:

“"The latest moves in the yen and stocks seem like an excessive reaction. It seems to be driven by foreign investors who are not well-informed on Japan," said Yuichi Kodama, chief economist at Meiji Yasuda Life.

"Policies that could cause unexpected moves in long-term bond yields will likely to meet opposition from the Ministry of Finance and are likely to fall through," he said.”


(emphasis added)

He might as well have added: “regardless of its occupant”. This doesn't keep the Japanese government from considering more useless 'stimulus' packages just yet, but it does put Abe's whole inflation-targeting spiel into perspective.

Naturally, the large public debt is not sustainable, and therefore it won't be sustained in the long run one way or another. However, Japan, though its government is highly indebted, is not exactly poor – and as we were recently reminded, sports some of the lowest OECD tax rates. So there is some wiggle room, and that could well translate into many more years of widow-making.

In light of all this, color us unsurprised by a headline that appeared in the FT on Friday:“Japan’s Abe in U-turn on BoJ attack

“Shinzo Abe, who is frontrunner to become Japan’s prime minister after next month’s elections, has backtracked on his calls for the central bank to adopt aggressive measures to beat deflation, saying he will not specify how the Bank of Japan should achieve its policy objectives.

“If I become prime minister, I will not comment on specific monetary policy measures, which should be decided by the Bank of Japan. I am commenting on specific measures because I am in opposition,” said Mr Abe in a debate of party leaders on Friday.”


(emphasis added)

Or in other words, 'I'm only electioneering, no need to get worked up over it. Didn't mean a word' (takes bow).

His previous remarks about the BoJ inflating all out had come under a considerable amount of fire, and a future prime minister doesn't really want to be called 'reckless', least of all in Japan:

“The head of Japan’s powerful business lobby, the Keidanren, criticised the remarks as “reckless rather than bold” and said that such action would threaten the international credibility of Japanese bonds.

“There is a difference of heaven and earth between directly buying JGBs and buying government bonds in the market,” says Masaaki Kanno, chief economist at JPMorgan in Tokyo. “If Mr Abe does not understand that, he is not suitable as Japan’s leader,” Mr Kanno said.

So what to conclude from all this? First of all, one probably shouldn't put too much weight on what Mr. Abe says about the yen, the BoJ and inflation while still 'in opposition'. Forget about him fiddling with the BoJ's independence – that's not going to happen.


Young Turks Danger

However, one needs to keep a close eye on whom he appoints to the BoJ's board of governors, especially with two of the young turks on the board already recently pushing for 'more expansionary wording'.

With year-on-year true money supply growth in Japan standing at all of 2.8% recently, they can use all the 'expansionary wording' they like of course, but there is a residual danger that once a few more changes at the bank's governing body take place, the yen's days as one of the world's hardest currencies will draw closer to the end. That would be a grave mistake, but we are far less certain than others seem to be that they will actually do anything too rash.  



Takehiro Sato and Takahide Kiuchi, the BoJ's newest and youngest governing board members wanted 'more aggressive wording' on the 1% inflation target according to recently released BoJ minutes. Unfortunately there is a strong tendency among Japanese economists to listen to advice from the West. Japan is a society in a demographic 'decline management' phase. It needs rising prices even less than we do.

(Photo credit: Bloomberg)





Charts by: sentimentrader,, Financial Times / Reuters



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One Response to “Reconsidering Japan, Part 2”

  • White eagle:

    Well,dear Pater,which way is it?Is Abe telling the truth when he is pushing for inflation or when he is backtracking on this ideas?It is election time,so you never now.Maybe he is going desperate and really wants to do desperate things.Look at Hollande,he is really doing crazy stuff he promised during elections.Maybe Abe has arrived at that famous Hitler’s moment,when the poor bastard started a war with Soviet union.It was just one stupid idea too much that broke proverbial camel back.

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