The Bank of Japan recently boosted interest rates — which ran counter to the central bank’s longstanding policy — and used other efforts to support the yen. So it’s been a wild ride of late for Japan stocks and related ETFs.
Over the past month, the unhedged MSCI Japan Index is lower by 8.32%. For the 20 days ending Aug. 8, annualized volatility on that index surged to 30.9%. That’s 970 basis points in excess of the volatility found on the S&P 500. Efforts to prop up the yen have weighed on currency-hedged ETFs, including the WisdomTree Japan Hedged Equity ETF (DXJ). But some experts believe the unwinding of the carry trade — the act of borrowing money in a low-interest-rate currency to finance purchases of assets in a higher-interest-rate currency — isn’t as damaging to the case for Japan stocks as was originally thought.
After all, by raising rates — something previously unthinkable in the country — BoJ may be signaling to global investors it’s happy with the pace activity and expansion in the economy there. That could be a positive sign for equities and funds such as DXJ.
Japan Fundamentals Still Sturdy
DXJ’s recent slide may be viewed as a deterrent. But it’s arguably an opportunity. That’s because Japan stocks and the broader economy there still sport strong underlying fundamentals.
“Nothing changed, as far as we can tell. Aside from the BoJ signaling confidence that it could move the policy rate higher, the main bullish drivers, such as corporate governance reform, have witnessed no material news flow in either July or August,” according to WisdomTree. “The country is flirting with an inflationary vibe for the first time in decades. JPY at ¥144.8 is a driver of that impulse. Though it is stronger than where the market stood last week, it remains remarkably accommodative.”
Obviously, the yen looms large when it comes to impact on a slew of Japan companies’ — including DXJ components — EPS. The good news is that many firms there already issued earnings guidance based on current yen/dollar exchange rates. That means they forecast the rate hike and that the recent slump by those stocks is arguably too severe.
More Catalysts Helping Spark Equity Rebound
There are other catalysts that have sparked a rebound in Japan stocks, including DXK components. Those include ongoing efforts to improve corporate stewardship and return of capital to shareholders via buybacks and dividends. Those are factors Japanese companies have every reason to take seriously.
“The country has positive catalysts, namely the follow-through on corporate promises that we have been highlighting for years. The big one is the Name and Shame List, which identifies companies who have not fixed their profitability metrics,” added WisdomTree. “The Tokyo Stock Exchange threatened it, and many shook their heads and said it would never happen. Then voila, the TSE called those bluffs and published the list, right there on the home page of their website.”
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