It is clear from the recent economic data from Japan that its cold war with China over the Senkaku Islands is really starting to bite. Relations are so bad that Japanese guests at restaurants in the Middle Kingdom are being assaulted for no reason.
Japan reported a trade deficit for the third successive month in September, with exports falling a horrendous 10.3% compared to the previous year. Imports rose a feeble 4.1%, resulting in a trade deficit of ¥559bn, or a massive $7 billion. For long time watchers of Japan such as myself (I’ve been at it for 40 years now), these numbers are unheard of.
Several investment banks have predicted a recession in Japan in the third and fourth quarters of 2012. If you had any doubts about the sickly state of Japan, look no further than the ten year chart for the Nikkei average below. It is almost alone among major markets in failing to substantially recover from the 2008 crash, and is a mere 28% above the cataclysmic March, 2009 lows. The S&P 500 has more than doubled since then. Japan has truly been a money pit of epic proportions.
That means the Bank of Japan now has an extra incentive to ease at their policy meeting next week. They can do this through another quantitative easing program, lowering interest rates, or aggressive currency intervention.
If they act as I expect, then the yen will finally breach the ¥80 level, and possibly move as far as ¥85. If they don’t, we should have ample opportunity to get out with a small loss. I would like to point out that these sort of at-the-money short plays in the Japanese yen have worked every month this year, provided you were willing to take a modicum of pain along the way. Think of it as your rich “Uncle Tanaka.”
Long term readers of this letter are well aware of the deteriorating fundamentals behind the Japanese economy, which I have been writing about endlessly for the past several years. Despite being fluent in Japanese, my only real recommendation for the Land of the Rising Sun has been to short every rally in the currency, with much success.
I was heartened once again this week when friends of mine in Tokyo told me that the loose money crowd at the Bank of Japan was slowly gaining in ascendance. Japanese exporters are getting hammered by the strong yen, accelerating the hollowing out of Japanese manufacturing, further adding to the country’s real unemployment rate. It has become a major political problem for the Noda administration.
To remind you why you hate all investments Japanese, I’ll refresh your memory with this short list of the problems bedeviling the country:
* With the world’s structurally weakest major economy, Japan is certain to be the last country to raise interest rates.
*As tsunami reconstruction money runs out, the economy is juddering to a halt. Q2 GDP came in at only 1.4%.
* This is inciting big hedge funds to borrow yen and sell it to finance longs in every other corner of the financial markets.
* Japan has the world’s worst demographic outlook that assures its problems will only get worse. They’re not making Japanese any more.
* The sovereign debt crisis in Europe is prompting investors to scan the horizon for the next troubled country. With gross debt exceeding 240% of GDP, or 120% when you net out inter-agency crossholdings, Japan is at the top of the hit list.
* The Japanese long bond market, with a yield of 0.78% for the ten year and 1.95% for the 30 year, is a disaster waiting to happen.
* You have two willing co-conspirators in this trade, the Ministry of Finance and the Bank of Japan, who will move Mount Fuji, if they must, to get the yen down and bail out the country’s beleaguered exporters.
When the big turn inevitably comes, we’re going to ¥85, then ¥100, ¥120, and eventually ¥150 to the U.S. dollar. That could take the price of the leveraged short yen ETF (YCS), which last traded at $42.73, to over $100. But it might take a few years to get there. The fact that the Japanese government has come on my side with this trade is not any great comfort. Many intervention attempts have so far been able to weaken the Japanese currency only for a few nanoseconds.
If you think this is extreme, let me remind you that when I first went to Japan in the early seventies, the yen was trading at ¥305, and had just been revalued from the Peace Treaty Dodge line rate of ¥360. To me, the ¥79.20 I see on my screen today is unbelievable, and unsustainable.
Noted hedge fund manager, Kyle Bass, says he is already in this trade in size. All he needs for it to work is for Japan to run out of domestic savers essential to buy the government’s domestic yen bond issues, who have pitifully had sub 1% yields forced upon them for the past 17 years. Then the yen, the bond market, and the stock market all collapse like a house of cards. Kyle says that could happen at any time.
Time to Crush the Yen, Mr. Noda