The Bank of Japan (BOJ) recently spooked global investors with an interest rate hike that stoked yen appreciation and the unwinding of the carry trade. In the process, that could punish Japanese equities and related ETFs.
Now, market participants considering ETFs such as the popular WisdomTree Japan Hedged Equity ETF (DXJ) are looking to the Japanese central bank for clues about what’s next. Hawkish commentary from BOJ Governor Ueda were seen as contributing to the late-July/early-August turbulence experienced by Japan stocks. However, Deputy Governor Uchida attempted to take a more dovish posture just days after Ueda’s comments.
In what could be an encouraging sign for Japanese stocks, including DXJ holdings, Uchida mentioned BOJ is mindful of financial conditions. He told investors that, should those conditions shift dramatically over the near term the central bank is prepared to act.
BOJ Looking to Calm Frayed Nerves
It wasn’t just the BOJ rate hike that unnerved investors while weighing on DXJ and other Japan ETFs. It was the specter of BOJ potentially engaging in successive rate hikes when the Federal Reserve is expected to start cutting rates.
For now it appears unlikely the BOJ is about to engage in earnest tightening cycle. Yet some experts believe there’s a possibility of rate hike in December or January, though not both months. It also pays to acknowledge why the central bank is considering another rate hike. And the reasons could be positive for Japan’s risk assets such as stocks.
“The reason why we think that they will be able to take up one more rate hike is the fact that there is continued progress on wage growth and inflation; and wage growth is the most important variable that BoJ is tracking,” noted Chetan Ahya, Chief Asia economist at Morgan Stanley.
Catalyst for Global Equities
Ahya pointed out that wages in Japan rose 3% last month and are trending in the right direction. For investors considering DXJ, that wage growth is pertinent. That’s because the ETF allocates 17.35% of its weight to consumer discretionary stocks. That’s DXJ’s second-largest sector weight. Financial services is the ETF’s third-largest sector exposure. That sector could benefit from higher interest rates by potentially getting a boost to net interest income.
Additionally, Fed rate cuts have in the past and could again act as a catalyst for global equities. That could potentially provide support to Japanese stocks along the way.
“We do think the Fed’s getting ready to start cutting rates. Our baseline is that they move at 25 increments per meeting, from now through the middle of next year. I would take Governor Waller’s comments though about front-loading cuts — which I took to mean, you know, the possibility of 50 basis point rate moves — very much in context, and with a grain of salt,” said Seth Carpenter, Morgan Stanley’s Global chief economist.
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