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Last year, Japan was one of the weakest-performing stock markets in the world.
While other developed markets were recording double-digit gains, the Nikkei barely budged – particularly for foreign investors, as the yen weakened.
And nerves are on edge again this week as the Bank of Japan meets up to discuss interest rates, with another hike widely expected, even though there are still concerns about weak inflation and lacklustre consumer spending.
So is Japan set for another less-than-stellar year?
The Bank of Japan is widely expected to raise interest rates again by another quarter point on Thursday this week. That would raise the key Japanese rate to 0.5%. It doesn’t sound like much, but it would actually be the highest rate since 1995.
Data on machinery orders beat market expectations, further strengthening the case for a rise. Private sector companies increased their capital spending in November for the second month in a row, for the first time since late 2005.
However, a hike is by no means a done deal. The government isn’t keen for the Bank to hike rates, and the BoJ has come under a fair amount of political pressure, which could well sway the decision – the BoJ is ostensibly independent, like most other developed market central banks, but the Japanese government is a lot more vocal than its counterparts in making its feelings known on central banking matters.
Business confidence is strong; unemployment is still falling; and consumer confidence is recovering from weakness in the third quarter of 2006. But wage and price inflation are still weak. Consumer price inflation grew at an annual rate of just 0.2% in November, while wages were actually down 0.2% on the same month in 2005.
So the Bank may not hike this week. But even if it doesn’t, a rise will almost certainly come next month, and most currently expect rates to end the year at around 1%.
But it’s important for investors to remember that higher rates – unlike in the UK and most of the rest of the world – should not be something for consumers or businesses in Japan to worry about. As Julian Jessop of Capital Economics points out: ‘Many households would actually welcome higher rates, because of the boost to savings’ income. Rates could certainly rise further without any real damage to the corporate sector, which is in robust health.’
Rate hikes in Japan are just a sign of the economy returning to normal after more than a decade-long slump. And make no mistake, the economy is returning to normal – companies have large backlogs of unfulfilled orders; and wages look set to pick up. According to Bedlam Asset Management, unions at telecoms group NTT say they plan to push for wage hikes in April – that would be the first time in six years. Nippon Steel has already said it will raise salaries for the first time in seven years, also in April.
As the fund management group points out, higher wages tend to lead to higher consumption. And in turn, rising consumption tends to mean rising sales, higher prices and rising profits – all good news for companies, and therefore stocks.
Of course, while rate hikes are broadly speaking, good news for Japan, some investors may have cause to be worried. Concerns about monetary tightening ahead of the last rate rise in July 2006 was, some would say, partly responsible for the shudder that wracked global stock markets in May last year.
Why? Because the Japanese yen has been among the main currencies used for ‘carry trades‘. This – very simply – is where you borrow money in yen, which doesn’t cost much because interest rates are so low. You then invest this money in a higher-yielding asset – usually something safe like US government bonds, but increasingly something risky like a high-yielding currency, such as Icelandic kroner.
It sounds like a safe bet – but it’s actually incredibly risky. It works a dream as long as the currency you borrow in – the yen, say – stays at the same exchange rate or weakens against the one you invest in – say, the dollar.
But if exchange rates go against you – because of an interest rate hike, for example – then you can end up owing far more than you originally borrowed. This is a big risk for developing markets, which have attracted a lot of ‘hot’ or speculative money based on carry trades, and is partly why they were so badly hit last May.
Of course, Japan took a hammering along with everyone else during the slump, and never fully recovered, unlike many other markets. But even if global stock markets do take another pasting at some point this year, we believe it’s much better to be positioned in a market with strong fundmentals – like Japan, or perhaps Germany – than the debt-laden UK or US.
Turning to the stock markets…
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The FTSE 100 closed at 6,239 on Friday, an 8-point gain. Power stock Drax was the day’s biggest riser on positive broker comment, whilst Intercontinental Hotels benefited from bid chatter. For a full market report, see: London market close (/file/24007/london-close-bid-talk-lifts-footsie.html)
Across the Channel, the Paris CAC-40 ended the day 7 points higher, at 5,617. In Frankfurt, the DAX-30 closed 17 points higher, at 6,705.
On Wall Street, the Dow Jones Industrial Average achieved a fresh record close on Friday, ending the day 41 points higher at 12,556. The Nasdaq hit a six-year high of 2,502, having gained 18 points as investors continued to move their money into tech stocks. The S&P 500, meanwhile, gained 7 points to end the day at 1,430.
In Asia, the Nikkei closed 152 points higher, at 17,209, today.
Crude oil had gained 35c this morning and was last trading at $53.34. In London, Brent spot was at $52.88 a barrel.
Spot gold hit a high of $627.40 overnight, but had fallen back to $625.30 this morning.
And in London today, miner Vedanta Resources posted record earnings of £369m for the last quarter, an increase of 174%. The gains were attributed to strong commodity prices and increased output. Shares in Vedanta had risen by as much as 4% today.
And our two recommended articles for today…
Uranium set to benefit from a nuclear renaissance
– The tide has most definitely turned in favour of nuclear energy – but where will the uranium required come from? Justice Litle examines the major trends affecting the uranium price now: Uranium set to benefit from a nuclear renaissance
Why low market volatility isn’t such good news
– It might seem counter-intuitive for a traditional stockbroking firm to argue in favour of increased volatility, but Jeremy Batstone of Charles Stanley thinks it would be good for everyone over the medium-term. To find out why we need to be more risk-averse – and what events could trip up the current market consensus, read: Why low market volatility isn’t such good news