{"id":40380,"date":"2013-07-27T23:39:55","date_gmt":"2013-07-28T03:39:55","guid":{"rendered":"http:\/\/countingpips.com\/forex-news\/?p=40380"},"modified":"2013-07-27T23:39:55","modified_gmt":"2013-07-28T03:39:55","slug":"still-waiting-for-japans-day-of-reckoning","status":"publish","type":"post","link":"https:\/\/www.investmacro.com\/forex-news\/2013\/07\/27\/still-waiting-for-japans-day-of-reckoning\/","title":{"rendered":"Still Waiting for Japan\u2019s Day of Reckoning"},"content":{"rendered":"

By The Sizemore Letter<\/u><\/a> <\/p>\n

The \u201cAbe Trade\u201d is back on\u2026for now.<\/p>\n

The \u201cGreat Bernanke Scare\u201d of May and June hit Japanese equities hard, forcing the Nikkei into \u201cofficial\u201d bear market territory (a loss of 20 percent or more is considered a technical bear market by most analysts).\u00a0 But in the six weeks that have followed, Japanese stocks have recouped virtually all of their losses.<\/p>\n

The yen\u2014which tends to rise during times of crisis as traders cover their short positions\u2014has resumed its gentle decline, and calm has returned to the Japanese bond market.\u00a0 After more than doubling from \u00a00.45% to 0.93%, the Japanese 10-year yield has drifted back to 0.78%.<\/p>\n

What conclusions can we glean from this?<\/p>\n

To start, Japan is indeed \u201cback\u201d as a risk asset class.\u00a0 This is not to say that the Japanese economy is on the mend or that Japan\u2019s long-term prognosis is anything but grim.\u00a0 But after years of indifference, it shows that traders see the Japanese market as being worth trading.<\/p>\n

Secondly, Japan\u2019s day of reckoning\u2014which will eventually come\u2014is not here yet.\u00a0 The bond market is calm\u2014even complacent\u2014and investors are unwilling to challenge the Bank of Japan.<\/p>\n

So, what now?\u00a0 Is it too late to jump on the Abe Trade?<\/p>\n

In my view, yes\u2014or at least for the first half of the trade, going long Japanese equities.\u00a0 After roughly doubling in less than a year, Japanese stocks are no longer cheap.\u00a0 By Financial Times <\/i>estimates<\/a>, Japanese stocks trade for 19 times earnings and yield only 1.6% in dividends, making them downright expensive by world standards.\u00a0 As a point of reference, the U.S. S&P 500 trades for just 16 times earnings and sports a dividend yield of 2.5%.\u00a0 German stocks trade for less than 13 times earnings and pay out 3.5% in dividends.<\/p>\n

But what about the second half of the Abe Trade\u2014shorting the yen?<\/p>\n

This would seem like a low-risk proposition. Barring another jolt of \u201crisk off\u201d volatility that led to short covering, it\u2019s hard to see a scenario whereby the yen appreciates from here.\u00a0 The Japanese government is determined to push down its value, and the near-zero yields across the yield curve offer little in the way of resistance.<\/p>\n

In a benign environment, shorting the yen should produce modest, albeit positive returns.\u00a0 But if I am correct about Japan eventually having a capital markets meltdown<\/a>, then those modest returns could get eye-popping in a hurry.<\/p>\n

The key here is the bond market.\u00a0 If the bond vigilantes finally awaken from their slumber and push Japan\u2019s borrowing cost to something that actually reflects the underlying risk, Japan will be effectively locked out of the international bond market.\u00a0 It will be forced to commit that cardinal sin of turning to the Bank of Japan for financing\u2026which will turn the yen\u2019s orderly decline into a rout.<\/p>\n

If you want short exposure to the yen, consider shorting the CurrencyShares Japanese Yen Trust ($<\/span>FXY<\/a>)<\/b>.\u00a0 And put the PowerShares DB 3x Inver Jap Gov Bond ETN ($<\/span>JGBD<\/a>) <\/b>on your watch list. \u00a0When Japanese yields start to rise again, JGBD will put you in position to profit.<\/p>\n

Charles Sizemore has no position in any security mentioned. \u00a0This post first appeared on MarketWatch<\/a>.<\/p>\n

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