Tag Archives | Japan

Before You Invest In Japan…

I gave my thoughts on the Japanese market to Covestor’s Sanjoy Ghosh, writing for USA Today:

The explosive stock rallies in China have gotten a lot of attention this year. Yet there’s another Asian market that is also white hot: Japan.

How long will the BOJ keep the monetary floodgates open?

Charles Sizemore, a Covestor portfolio manager and founder of Sizemore Capital Management, think investors in Japanese stocks need to be mindful of two things.

First, Japanese stocks aren’t cheap by global standards. On top of that, the BOJ’s ultra-loose policy is very punishing on the yen and they may lead to currency losses for foreign investors.

“This is very much a play on the Bank of Japan,” says Sizemore. “If you believe that its quantitative easing efforts will inflate the Japanese stock market faster than it destroys the value of the yen, you win. If not, you lose.”

You can read the full article here.


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Japan Credit Rating Downgraded By Fitch? Thank you, Captain Obvious

In an acknowledgement of the glaringly obvious, Fitch downgraded Japan’s credit rating by a notch on Monday, citing Japan’s ballooning pubic debt.


My only question is this: What took them so long?

Fitch now rates Japanese debt as an A, which is five full notches below the top AAA rating…and just a few notches short of actual non-investment-grade junk status.

The straw that seems to have broken the camel’s back for Fitch was the delay by Japan in raising its consumption tax from 8% to 10%.

Seriously? That’s where they decide to draw the line?

Japan was a solid credit before, but now, because they delayed raising taxes by two percent, their commitment to fiscal discipline is being questioned?

You might detect a little sarcasm here, but Japan’s fiscal position is no laughing matter. Japan has dug itself into a hole from which it cannot realistically hope to dig itself out. Japan won’t “default” on its debts, as they are denominated in yen and Japan can essentially print the yen it needs to pay its existing creditors. That is pretty much what is happening today, as the Bank of Japan is the buyer of substantially all new bonds being issued by the Japanese treasury.

But while outright “default” may not happen, something every bit as destructive will. Eventually, the market will turn on the yen, and the controlled decline of recent years will turn into a collapse. Sure, Japan will pay its debts. But it will be in currency so depreciated it won’t really matter.

Let’s take a good, hard look at Japan. By Fitch estimates, Japan’s sovereign debts will rise to fully 244% of GDP by year end. Whether they raise consumption tax to 10% or 110%, it’s hard to see much materially changing on the indebtedness front. Not even Greece—yes, GREECE—has a debt burden that high. At last count, Greek sovereign debt stood at about 177% of GDP.

Americans fret that their government has a spending problem…and it does. But U.S. federal debt accounts for just a little over 100% of GDP. Even during World War II, our debts only amounted to about 120% of GDP. That means today, after decades of peace, Japan’s debts are more than double the levels of the United States during the peak of the biggest war in world history.

What’s more, Japan is adding to those debts every year through chronic budget deficits. In 2015, Japan’s tax intake is expected to cover just 57% of the government budget, meaning that Japan borrows 43 cents of every dollar it spends.  Its budget deficit is expected to be over 6% of GDP this year.

Japan 10-Year Bond Yield

Japan 10-Year Bond Yield

Bond yields across the yield curve are close to zero in Japan; the market yield today on 10-year Japanese bonds is just 0.3%. And even at that rock-bottom yield, about 16% of Japan’s annual budget is interest on its existing debts. If Japan’s yields rose to anything close to the developed-world average—or to anything close to a level that would be commensurate with currency risk—interest payments alone would completely overwhelm the Japanese budget.

All of this sounds bad. But with diligent cost cutting and a commitment to fiscal discipline, Japan can reduce its debt load to something a little more manageable, right?


Let’s just say I doubt it. If Japan were a fast-growing emerging market with a youthful population, I would say that, at least theoretically, Japan could grow its way out of its debt problem. But that is simply not the case here. Japan’s GDP hasn’t grown at all, even in nominal terms, in over 20 years (see chart above). Even if Abenomics were moderately successful in reigniting Japan’s economy (and thus far its impact has been mixed at best), Japan’s history over the past two decades should teach us to have realistic expectations.

But the biggest reason that Japan is doomed is the cold, hard math of demographics. At the risk of oversimplifying, there won’t be enough Japanese taxpayers alive a few decades from now to pay the bills. Japan is already the oldest country in the world, with nearly a quarter of the population over the age of 65. By the year 2060, Japan’s population of 127 million people will have shrunk by more than 30%. And an almost unfathomable 40% of the population will be 65 or older.

So, is there a play here?

Maybe. To start, I’d avoid buying shares of Japanese stocks, such as via the iShares MSCI Japan ETF (EWJ), for anything other than short-term trades. Longer term, Japan is looking at total economic collapse, and you don’t want to be left holding the bag with Japanese stocks. More intrepid investors could consider shorting the yen or aggressively  shorting Japanese bonds via the DB 3x Inverse Japanese Govt Bond Futures ETN (JGBD).

In any of the cases above, patience will be needed. Japan has limped along with a broken economy for nearly a quarter century. There is no guarantee that the bottom falls out today. But given Japan’s debt and demographic issues, it is just a matter of time.

Charles Lewis Sizemore, CFA, is chief investment officer of the investment firm Sizemore Capital Management and the author of the Sizemore Insights blog.

Photo credit: Gareth Jones

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Shinzo Abe’s Win Doesn’t Mean Much for Japanese Stocks

Shinzo Abe’s bet paid off.

With Japan sinking back into recession and the effectiveness of “Abenomics” called into serious question, the Japanese prime minister called a snap election two years early to secure a governing mandate.

Well, he got it. Shinzo Abe and his coalition partners got 68% of the vote, giving him the political support he needed — and four more years — to push through with his economic reforms.

Whether you can really call this a “popular mandate” is open to debate. Only 35% of Japanese voters bothered to show up, showing a remarkable amount of apathy, given how horrendously bad Japan’s economy is.

New data showed that Japan’s recession is even worse than thought. The Japanese economy shrank by an annualized 1.9% last quarter, rather than the 1.6% originally reported. And that drop follows the 7.3% implosion of the second quarter.

Effective or not, the election means that Abenomics will be in effect for at least another four years.

Here’s why that victory doesn’t matter.

Japan Has Serious Demographic Problems

I don’t want to rag on Abe, and I’m actually very supportive of his reform agenda. But try as he might, Abe can never be Japan’s Reagan or Thatcher. As sick as Britain and America were before the Reagan and Thatcher revolutions, the problems facing both countries were political. A politician with sufficient charisma (Reagan) or cojones (Thatcher) could have fixed them.

The issues Japan faces are not political; they’re demographic.

Japan is the oldest country in the world with a quarter of its population already over the age of 65. Japan’s population peaked seven years ago at 128 million and hasn’t stopped shrinking since — Japan has about a million fewer citizens every year. By 2060, the Japanese government estimates that Japan’s population will have shrunk to 87 million people, and as much as 40% will be older than 65.

That’s a problem, to say the least. In a modern economy, consumer spending is the dominant contributor to GDP. But consumer spending requires consumers, and Japan has fewer of them every year. And the ones they do have are older and more inclined to save than spend.

Let’s look past consumer spending for a minute. What about real estate? It’s hard to imagine home prices enjoying much of a sustained rise given that there are fewer buyers every year. Given the importance of home equity to household wealth — and given the importance of performing mortgages to the banking system — it’s hard to imagine real estate being anything other than a serious economic drag for decades to come.

And that drag will appear in both commercial and residential real estate. Fewer Japanese citizens also means less demand for office space and retail space.

Nevertheless, Shinzo Abe is making a real effort at spurring growth, as hopeless as it might be. Let’s take a look at what his policies might mean for the yen, for Japanese bonds, and for Japanese stocks.

Japanese Stocks Still in Trouble

Two major planks of Abenomics are aggressive monetary stimulus and increased government spending. Both of these suggest that the yen will continue to sink, particularly versus the dollar. After years of record budget deficits and creative Fed policy, the United States is slowly returning to more “normal” policy, while Japan is moving the other direction with gusto.

Adjusted for the relative sizes of the economies, Japan’s current quantitative easing program is about three times bigger than “QE Infinity” was at its largest.

The yen story is straightforward. Barring the occasional short-covering rally, the yen should continue to fall. But the story with Japanese bonds is far more complex.

Normally, wildly aggressive money printing and deficit spending causes bond yields to rise in anticipation of inflation. Well, Japan has no inflation, and bond yields are kept low by the aggressive buying by the Bank of Japan. The Bank of Japan is, for all intents and purposes, buying bonds faster than the treasury can print them.

That speedy buying means that Japanese bond yields should stay near record lows for now … though I eventually see yields soaring to unpayable levels when the yen’s orderly decline turns into a rout.

What about Japanese stocks? The iShares MSCI Japan ETF(EWJ) has been quiet of late, trading in a relatively tight trading band since May of last year. And this is not simply a case of stock gains being offset by currency losses; the WisdomTree Japan Hedged Equity ETF (DXJ), which hedges its exposure to the yen, has had a fantastic run over the past two months. But its year -to-date returns have been nothing special, underperforming the S&P 500.

The deteriorating economic picture appears to be roughly balanced by quantitative easing. Unlike American quantitative easing– which was exclusively the purchases of government bonds and mortgage securities — the aggressive Japanese variety includes purchases of Japanese ETFs.

Bottom Line

Normally, I prefer to be on the same side of a trade as the central bank. They have more money than I do, seeing as how they can print money at will. But in this case, I essentially see a transfer of ownership. Disillusioned Japanese and foreign investors are selling their shares to the Bank of Japan and reinvesting their funds elsewhere.

I don’t expect much of a rally from EWJ or from Japanese stocks in general. If you want to wager on Japan, stick with shorting the yen.

Charles Lewis Sizemore, CFA, is the chief investment officer of the investment firm Sizemore Capital Management. As of this writing, he did not hold a position in any of the aforementioned securities. Click here to receive his FREE weekly e-letter covering top market insights, trends, and the best stocks and ETFs to profit from today’s best global value plays.

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Abe’s Third Arrow: Guess What, It Won’t Matter

Japanese prime minister Shinzo Abe has officially let fly his much-anticipated “third arrow,” announcing on Monday a series of economic reforms that included, among other things, a corporate tax cut.

His first two arrows were, of course, a loosening of monetary policy that included a massive quantitative easing program and a fiscal stimulus package.

The first two arrows—and particularly the quantitative easing program—were wildly successful in pushing down the value of the yen and in reviving the animal spirits in the Japanese stock market.  But their effects on the real economy were mixed at best, and I would argue that over the long term will make not one iota of difference.  Japan will never get its economic mojo back.  Its aging and shrinking demographics all but guarantee that Japan will eventually slide into oblivion.

And as for the third arrow, I expect its effects even in the short term to be virtually nil.

Let’s take a look.  At 35.6%, Japan has the second-highest corporate tax rate in the world after the United States, which tops out at about 40% after allowing for state and local levies. Yes, not even the notoriously high-taxing French extort as much money from their companies; France tops out at about 33%.

Details have not been released, but early estimates suggest that Japan’s corporate tax rate could fall to as low as 20%.

So, given the high current tax burden faced by Japanese companies, a reduction in the tax rate should mean an investment boom in Japan, right?

All else equal, yes.  But alas, all else is not equal.  As Capital Economics notes, return on investment in Japan is low by global standards due to existing overcapacity and, in any event, Japan already has some of the highest levels of capital spending in the G7.  While a lower tax bill might boost corporate profits and give Japanese equities a jolt, it’s hard to see this unleashing a Reagan or Thatcher-style economic transformation.

I touched on Japan’s problems in my last issue of Macro Trend Investor.   Remember, Japan is the oldest country in the world with a quarter of its population already over the age of 65.   Japan’s population peaked seven years ago at 128 million and hasn’t stopped shrinking since–Japan has about a million fewer citizens every year.  By 2060, the Japanese government estimates that Japan’s population will have shrunk to 87 million people, and 40% will be over 65.

In a modern consumer economy, an aging and shrinking population is devastating to growth.  Fewer people mean fewer consumers—and less spending, unless you believe that a smaller consumer base will somehow buy more goods and services per capita.  That could only happen if real income per capita outpaced population decline, which is a scenario that is hard to envision.  Rising income would only come with rising production per capita…which, again, only makes sense in a stable or growing population.

Likewise, older consumers buy much less than those in middle age (certain items like healthcare notwithstanding).  So again, an aging and shrinking population means less spending and slower economic growth.

This is why Japan’s recessionary conditions are not cyclical but structural.    Think about it: Why would builders build new homes if there are fewer people to live in them?  Why would companies invest in new capacity if there are fewer consumers to sell to?

Hey, I’m a believer in small government, and I’m generally very favorable towards tax cuts.  I see nothing wrong with Abe’s decision to lower taxes in a bid to make Japan more competitive.  But let’s get realistic.  It’s not going to be a game changer.

The third arrow will also have policies aimed at getting Japan’s women back to work.  Details are yet to be released, but again, it’s hard to see this having a big impact.  Unless Japan can somehow convince its women to have large, 4-5 children families and institute economic policies that would somehow make that affordable in modern Japan (never mind changing social attitudes keeping women at home that have endured for centuries), it’s hard to see any of this mattering much.

If you want to play the inevitable failure of Abenomics, look for opportunities to short the rallies using  an inverse ETF or fund such as the ProShares UltraShort MSCI Japan (EWV).  Or for a safer bet, you can short the yen via the ProShares UltraShort Yen ETF (YCS).

This article first appeared on InvestorPlace.

Charles Lewis Sizemore, CFA, is the editor of Macro Trend Investor and chief investment officer of the investment firm Sizemore Capital Management. Click here to receive his FREE weekly e-letter covering top market insights, trends, and the best stocks and ETFs to profit from today’s best global value plays. 

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Thinking About Buying Japanese Stocks? Let Me Get You a Duffel Bag, Some Gasoline, and a Lighter

It’s official: Japanese stocks are in correction.

After closing at a recent high of 16,291 on Dec. 30, the Nikkei was down by about 14% through yesterday’s close. The iShares MSCI Japan ETF (EWJ), the most popular Japan ETF, is down a more modest 9%, due in part to currency effects (the yen tends to rally during “risk off” market conditions).

I’m not big on technical definitions. It’s not particularly important to me whether a market is in “correction,” meaning down 10%, or whether it is officially a “bear market,” meaning prices have declined by 20% or more. What matters to me is what I can expect going forward.

So with that said, what can we expect from Japanese stocks?

Let’s start with valuation. The stocks that make up EWJ collectively trade for 21.79 times earnings, which is on the pricey side, particularly given Japan’s sluggish growth. Of course, trailing P/E can be over- or understated depending on what stage of the economic cycle we are in, so the Shiller Cyclically-Adjusted P/E (CAPE) can be a useful tool to smooth out the noise.

Well, based on the CAPE, Japan has the third-most expensive market in the world, after Sri Lanka and the United States. (And yes, Sri Lanka does indeed have a stock market. I was as surprised as you.)

Looking at the EWJ and the Japanese economy, it’s hard to see how a premium valuation is warranted. Despite all attempted to ignite inflation, the specter of deflation lingers. Sure, Japan’s CPI rose 1.3% in December … but virtually all of that was due to rising energy costs and distinctly not rising consumer prices. Excluding food and energy, Japan’s CPI was up 0.7%.

I suppose it might be good that inflation is tame given that Japanese wages have fallen for 19 consecutive months and are now at a 16-year low.

If I sound a little down on Japan, it’s because I am. While I’m open to the occasional short-term trade, I am definitely what you would call a Japan perma-bear — you won’t find me recommending the EWJ any time soon.

Last year, writing about Japan’s bid for the 2020 Olympics, I wrote that if you considered Japanese stocks a viable investment, you should “close your brokerage account, withdraw the cash balance in a duffel bag, then douse it in gasoline and set it on fire. Because if you believe Japan is investable, you’re inevitably going to lose your money. The fiery duffel bag will help you skip a few steps and save some time.”

Aside from my belief that the Olympic games are of questionable economic value to the host country, I consider Japanese stocks and the yen to be long-term shorts for two related reasons: debt and demographics.

Debt and Demographics Will Weigh Down EWJ

Japan has the highest sovereign debts in the world, quickly approaching 250% of GDP. That’s well more than double the size of America’s debt load, and most of us consider the U.S. to be far too heavily indebted for its own good. And Japan shovels massive amounts of new debt onto the pile every year with budget deficits that have averaged 8% to 10% of GDP since 2008. In 2013, 46% of all government spending was financed with debt.

At the same time, Japan’s population is aging and shrinking. At the risk of oversimplifying, Japan’s debts continue to balloon even while the number of Japanese citizens available to pay it back gets smaller every year.

There is not realistic way out of this for Japan, which means major trouble for the EWJ in the long term. The Japanese bond market has been quiescent, and yields remain ridiculously low given the macro risk that Japan presents. The Japanese 10-year yields a pitiful 0.6% — more than two full percentage points below the U.S. 10-year Treasury. This has been made possible because the Bank of Japan buys 70% of all Japanese government bonds, though it has resulted in a weaker yen.

Still, if I am right about Japan eventually having a sovereign debt meltdown, the yen’s declines of the past years will look almost quaint. The yen will effectively fall to zero.

That will make paying back Japan’s mountains of debt a lot easier, of course. But it will cause ordinary Japanese citizens — and particular its pensioners — a lot of pain.

If you want to trade Japanese equities, be my guest. Any asset, no matter how fragile its fundamentals, can be a decent short-term trade. But the real play here — and the one that I view as almost “risk free” over a longer time horizon — is shorting the yen.

As always, use common sense when trading.  You can be “right” about a short and still lose a lot of money if you get caught on the wrong side of a short squeeze. An ETF option to consider in lieu of shorting the yen directly would be the ProShares Ultrashort Yen (YCS).

But if you’re still considering the EWJ, I’d point you to a duffel bag and a zippo lighter.

Charles Lewis Sizemore, CFA, is the editor of Macro Trend Investor and chief investment officer of the investment firm Sizemore Capital Management. Click here to receive his FREE weekly e-letter covering market insights, global trends, and the best stocks and ETFs to profit from today’s exciting megatrends. This article first appeared on InvestorPlace.

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