Japan vs. Global Speculators: The Mice Sometimes Fight Back

by: Darrel Whitten

There is a cat and mouse game going on between Japan's Democratic Party of Japan (DPJ) and global hedge funds/other speculators, and the game has recently gotten more interesting. The mice of course are the DPJ and Bank of Japan (BOJ). The DPJ has had a credibility problem with investors since its inauguration. Numerous public statesmen bloopers have won DPJ cabinet the moniker of "ministers of disruption" (Financial Times), and investors still can't figure out what the DPJ's strategy is for restoring Japan's economy to sustainable growth while containing the disturbing rise and sheer size of Japan's national debt. The BOJ also has a credibility problem in that its actions have so far been viewed as being overly protective of the Bank's independence--i.e., being part of the problem instead of part of the solution.

As foreign investors have become increasingly despondent about Japan, stock prices have continued to waffle downward, despite the ongoing rally in global stock markets, particularly in Asia. Hedge fund and other global speculators (cats) have been emboldened by the apparent ambivalance to the strong yen by the new government, evidence of a double dip developing in Japan's economy, and a year-end rush to issue new capital beginning with Japan's megabanks to short JGBs as well as major exporter and megabank stocks.

The Mice Fight Back

But to the speculators' surprise, the mice (DPJ and BOJ) are trying to fight back.

The DPJ passed a supplementary budget with expenditures of some JPY7 trillion, and, more importantly, the BOJ announced a JPY10 trillion program to provide additional liquidity--signalling a new attitude of cooperation with the DPJ in attacking Japan's economic problems, instead of pretending merely to be an observer.

The reaction of Japan's stock market and the yen was immediate and positive. The Nikkei 225 rebounded from a low of 9,076.41 on November 27 to a recent high of 10,126.61 (11.6%) and the yen quickly sold off from a 14-year high of 84.81 on November 27 back to a recent low of 90.76. The rapidity of the move was a classic sign of short-covering.

The mice are not done yet. Japan, France and Germany have apparently been lobbying very hard to delay the deadline for introduction of the new more strict core capital requirements agreed upon by the Basel Committee. Japan's Nikkei economic journal is reporting that Japan, the US and Europe have effectively agreed to extend the transition period for full implementation of the new capital requirements by over 10 years, from the original 2012 target date to after 2020, ostensibly because bank efforts to meet the requirements could dramatically squeeze already tight credit for the small and medium-sized companies that need it most.

While an early introduction by US and UK major banks could still de facto establish the new standards by getting their core capital up to the new targets by 2012, news of the relaxed introduction period had the predictable immediate impact on the stocks of the big three megabanks. On December 16, the stocks of all three banks, Mitsubishi UFJ (8306, NYSE:MTU), Sumitomo Mitsui (8316, OTC:SMFJY) and Mizuho Financial (8411, NYSE:MFG) opened the December 16 session in Tokyo 4%~16% higher--i.e., more evidence of short-covering.

While these policy actions won't immediately solve Japan's deep structural problems, they should help to keep the "cats" guessing.

Disclosure: No positions.