This page has been archived and commenting is disabled.
Was Kyle Bass Wrong About Japan?
By Chris at www.CapitalistExploits.at
Have you ever read John Steinbeck's Of Mice and Men? It's part of the high school curriculum in many western countries. The story is of two lonely and alienated farm labourers in the depression. One, George, who is sharp and quick, and the other, Lennie, who is physically huge and strong but possesses the mind of a child.
Early on in the book the reader gets this sense of impending doom, yet Steinbeck draws the reader in. You find yourself wanting to find out what terrible fate awaits. It's an uncomfortable feeling as you begin to see this chain of events forming and you find yourself wanting to scream out warnings to the characters. As the story unfolds this sense of doom and the despair that goes with it is heightened as the inevitability and consequences of actions taken plays itself out. You realise early on that poor Lennie, the simpleton, is going to get into trouble, possibly horrible trouble, and as a reader there is not a damn thing you can do about it.
When I think about the Bank of Japan, I think about Lennie. Possibly well intentioned but totally out of depth with little idea of the immense problems ahead which will ultimately cause untold hardship.
Japan, as we know, have unimaginably huge debt. All ¥ 1,259,476,310,706,736 of it. In fact, this figure is already outdated since the debt is rising every second so let's simply agree it's large. So large that if it was human it would make Pavarotti look positively anorexic.
Desperate times call for desperate measures. Enter Shinzo Abe. This guy was the first politician I know of that actually campaigned and won on a mandate to destroy a country's currency. This is like Novak Djokovic entering a grand slam tournament, promising to play wearing a straight jacket and blindfolded, and still receiving the highest odds at the bookies. It's completely nuts but it happened.
The standard line is that devaluing the yen is going to halt deflation, spur exports and bring about economic growth. This is the story told. It's a ridiculous concept parroted by Paul Krugman and the likes whose wet dream involves us all fighting imaginary aliens in order to become wealthier. No really, I'm not joking.
Unpayable debts won't be paid. This seems obvious and Japan has unpayable debts... sort off - a point I'll come to in a minute.
Kyle Bass, one of the most successful and intelligent investors on this ball of dirt today, has made no secret of his firm's bet against Japanese government bonds. The reasons for this are mathematical and easy to understand. Tax revenues, which are falling due to demographics, cannot keep up with existing, ever rising debts. With a government spending 1.4x what it takes in via taxes the budget deficit can only be made up with more debt. Hardly sustainable and a solid case for shorting JGBs.
Until recently I, too, would have wished to do what Kyle has been doing, which is buying credit default swaps. To participate in this requires a balance sheet well north of my own and as such these options are not available to me. As I review and rethink markets and opportunities - a never ending process for me - I've come to thinking that the short JGB premise may well be wrong.
Consider what we do know:
- We know that Japan's debts are unsustainable and we also know that they are demographically - how to say this kindly - screwed.
- We also know that Japanese pension funds have been the pillar that has held up the JGB market as they are the largest holders of Japanese government debt.
- We further know that these same pension funds have turned from net buyers to net sellers, not coincidentally due to the aforementioned demographic structure.
- We know that their debts are denominated in yen, the currency which the BOJ has the ability to print. This is an important point as I mentioned last week when discussinghow Greece is different.
Now, when your largest net buyer turns into your largest net seller the market reaction would logically be a rise in risk premiums, measured here in interest rates. This, given the debt load, would crush the bond market. Not something that the government of Japan would like. Humans will always act in their own self interest and the political class in Japan is no different. In order to keep their jobs they need to hold the bond market together.
What if the story about killing deflation, creating a stronger export market, thus increasing corporate profits, is just that, a story, and the real reason is less altruistic? What if, backed into a corner with no way out, the Abe government realised how desperately precarious their bond market is, and not wishing to preside over a collapse further realised that the ONLY way forward is to print yen in order to buy the bonds that are needed to be continuously issued, not to mention those bonds now being sold by the pension funds who've turned from net buyers to net sellers?
Remember, unlike Greece, Japan can do that. As I mentioned a minute ago, Japan has unpayable debts. Sort off. I say sort of because the the debts are denominated in yen, a currency they can print as much as they like of, and as such Japans debts can be paid at par. The value of the currency under those conditions is what matters here but they can actually pay the bonds at par.
This is the real reason the BOJ is weakening the yen. Not in order to "help" Japanese companies but in order to save their own jobs. They HAVE TO print yen to buy Japanese government bonds. It's that simple. That in itself weakens the yen but it's a result, not a cause. Abenomics is merely a smokescreen to sell the concept to the world.
What to Do?
Shorting the bond market amounts to standing in front of the mighty BOJ who can print as much yen as is necessary. Last week I discussed how the Asian crisis took hold. In particular, the key takeaway is that countries with foreign denominated debt are in a very different and more precarious position to those who issue the currency their debts are denominated in.
Shorting the yen therefore seems a cinch. Japan can never pay their debts and it's pretty much a given that as they keep issuing and buying bonds the yen will continue to decline until it goes away.
But Chris, the yen won't disappear, you might say.
Why not? They'll print it until they have to go and issue a new currency and at this point their debts have been wiped out. It would take a miraculous recovery of Japan's economy to pay their debts. As soon as the market finally realises this the depreciation we've seen so far which is mild will turn into a collapse. There is still time therefore to position ahead of the inevitable.
The only argument I can come up with against this scenario is if Abe decides to cut spending, let interest rates rise and stand in front of the tsunami of debt they've built up. He'd be the first politician in Japan's history to commit political seppuku.
Maybe I'm missing something and am always open to that "something". I haven't found it yet and until then I'm betting "Lennie" is going to kill something. I'm betting the BOJ kills the yen.
- Chris
"Trouble with mice is you always kill em." - John Steinbeck, Of Mice and Men
»
- advertisements -
To say the dollar remains soft may be a bit misleading. Charts show the yen lingers just a freckle off multilayer lows against the greenback. Japan is haunted by massive debt that will soon bring it to its knee's and the yen has started a fall that is unlikely to stop. A loop is developing that has the potential to feed on itself. As the yen falls and people in Japan realize that it is liable to continue, more and more people will move their money abroad.
At that point the yens fall may become unstoppable. The financial news flowing from Japan has become so loaded with conflicts of interest and internal deals created to prop up one weak institution with another that it would be called comical it the ramifications were not so serious. The article below explores how the sun will soon set over the land of the rising sun.
http://brucewilds.blogspot.com/2015/01/japan-is-about-to-enter-crisis-of-faith.html
In the last intervue I saw with Bass he said that of the two events, Currency failure and Bond prices coliapse, he was betting the currency failure would occur first and that the USD/JPN goes too 200 in the next two years.
Sounds like Bass has been correct and this article is BS......................
Agree; if the yen collapses, who is going to want yen-denominated bonds?
Bass even said that until Japan is forced to defend the yen interest rates will not rise. And by that time the debt be so big that increasing interest rate will cause debt to explode. At that point both JGB and the Yen collapse.
I will say this again this article is BS.......
A perpetual economic motion machine --- awesome!
Yes. Bass fell for the "demographics" spin the banking mafia use to wreck healthy economies with mass low-skilled immigration.
As long as Japan stays Japanese their average human capital will be higher than most countries and they will remain more prosperous than most countries.
edit: In the specific context of central bank chicken they won't come last because Japan is more of an "us" then the US or EU and maybe China also.
Who the fuck is Kyle Bass in the realm of big HF managers anyway ?
He is one of 2 fund managers who figured out the real estate and mortgage Ponzi in the early 2000s, bet against it, and made a few hundred million dollars when it collapsed.
Ever since then, some people figure he has a head on his shoulders that is good for more than a hat rack.
Tell me something I don't know.
Here's some for you :
-He was still a fratboy when foreigners people started shorting JGB's and already getting burned.
-The 3.5% 10 Y Yen swaptions he bought, bragging in the press that he would take the "young traders selling" to the cleaners were covered 3 months later with the 3% bought at the same price effectively giving those "young traders" free options...
-The guy has had one good trade (no he's not the only one, the whole derivatives industry had the same one) a 2 year, 3 at best good track record and thinks he is Warren already...
But hey I understand he's our hero, that's why we read ZH, right ?
Maybe Kyle has a larger short position in the Yen, and is actually rooting for what you're saying will happen to occur. He may lose x amount on the bond trade, but make 2 or 3 or 50x on a short yen trade.
Kyle is also long physical gold and nickels. He knows what he's doing. If I am sitting here shaking my head in agreement at your article, what do you think Kyle Bass has been doing? He's gotta be well positioned in case the Yen crashes. He has said that the Yen will be the first fiat to go. He knows. And he has physical gold as well. He's got all the bases covered and will likely profit handsomely.
You are correct. I have an associate who is a notable and known trader. He was unable to get into Hayman's Japan deal because of the high entry, 10 mil. Knowing all he does and understanding the trade he set up a program with an entry point available to upper class investors, not really wealthy but with ample to invest. His fund is modeled after Hayman and Short Yen is absolutely part of the strategy. I strongly reccomend it. You can find it here
Long term there is a significant likelihood Japan will experience a sovereign debt crisis and a notably weaker currency. As a result, there is opportunity in being net short the Japanese Government Bond market and the Yen. - Tres Knippa
chris, like your writing, of not off of course, consider reading some alan ableson from barrons old issues, he may have had a team to help him with the humor, but you are on the same basic comfortably amused track. bodes well.
One might think that gold purchases by private individuals in Japan would be huge.
Why when you're 10-20 years from death? Its a store of wealth, what most pensioners require is yield to pay for groceries.
I read awhile back that the Japanese people were net sellers.
But I think that was shortly before Abenomics. I think inflation rather than deflation has hit them since then so perhaps things have changed.
The demographic driver would make then net sellers. Most gold is bound to be held by old people, and then Estate taxes must be paid.
Fiat money allows people to confuse money with wealth. I firmly accept Kyle Bass's thesis. The issue is not one of being wrong. It remains an open question about how right he will be and how much payoff his "play" will yield when he closes all positions based on the thesis.
The warning here is that three other major central banks (US, EU and China) are going down the same path as Japan. We are being set up for the Mother of All Failures of the entire fiat money scheme of the world. It is baked into the cake.
Kyle is wrong to short government bonds because he's assuming central banks won't manipulate the price. This is obviously wrong, and he must know that it's wrong. The price of government bonds can be anything since that number is controlled by the bank. What the bank doesn't control is the value of the currency. If you think Japan's government is fucked, you should be shorting the yen itself, not the bonds.
I think guys like Peter Schiff are likely to make the same mistake. Peter believes investors are rational to some degree. This is clearly wrong. No sane person would invest their life savings in tulips, but that's exactly what happened a few centuries ago. No sane person would buy a government bond with negative yield. No sane person would buy shares of Tesla or shares of Twitter, yet here we are. You can't take the short side of a bet just because it's the logical thing to do. People are not logical.
If you bet alongside Peter Schiff you'd have been wiped ot many times over.
Why that guy gets any coverage is a mystery.
It's the greater fool theory of investing. It's OK to make a foolish investment as long as a bigger fool comes along to buy you out at a profit.
So far, so good.
Kyle is missing a few facts. Of course all fiat currencies will die, but he doesnt understand some strengths of the unique Japanese situation. Most of all, virtually all the debt is owed to the people themselves, and when they die, a third of it reverts BACK to the government (becomes extinguished). The population is rapidly dropping, because of the rapid die off of old people. Also in addition to having the same approximate tax rate as the US, they also have in addition (racheting up to become 10%) sales tax on everything that goes to the federal govt. Such tax did not even exist that long ago. Other facts: the old people are much healthier than in the US (until shortly before they die), the cost of medical care is about 4 times less, a much higher percentage of the people work, and many non-economic solutions are used to solve problems (such as compensation to a sudden loss of 30% electricity nation-wide without riots or economic destruction), and which bankers are unable or unwilling to understand. Much more wealth production and less focus on racketeering and stealing of each other's "wealth" : these factors favor a healthier economy that has more reason to coast than the US when TSHTF.
Merv.....
Everything they take in with taxes, everything, about 30% goes to interest.
And it gets worse every year.
What happens when the interest consumes 100% of the tax take?
Squid
"about 30% goes to interest" means "about 30% goes to retirees and pension funds" This is not comparable to US "national debt" but instead is comparable to US pension funding, which is a totally different financial condition.
Most social security payments and US debt have been shunted to military weapons and killing over the years and banksters get most of what is paid as interest. when interest consumes 100% of the Japanese tax take, then the distribution of tax to retirement programs/payments is fairly complete. I dont see how the US system of incurring US national debt payments to banksters and military contractors instead provides a more stable situation. If the retirees in Japan suddently had a 50% cut, the disruption to society would be much less than in the US if the US military contractors and banksters in the US suddenly had a 50% cut...
Anyway, the "national" debt in Japan is more equivalent to the "pension" funding in the US (including state and local and some private pensions). Is the US pension funding (thinking about Chicago here, or any US city) really so much better funded than the equivalent Japanese national debt?
Squid correctly states exactly why Bass sees Japan as an asymetric trade.
Everyone jumps all over Peter Schiff, but, I'll be damned" if he hasn't been right about the Federal reserve NOT increasing rates for the past 18 months. He should start "daring" Janet to raise raise rates. Then he can mock her on a monthly basis for not doing it.
She is going to suprize the market by actually going to -0.1. Then what? She can always find a reason. Whoever asks tough questions is guaranteed to lose reelection. Even Ron Paul stopped short of being too tough.
IMHO, the game is designed to be over in October of 2016.
We will have a new (a-la Chavez) emperor by then.
Get your chalet in the Andes before is too late. 50k will do it
Got a whole family in the Andes.
"Japan, as we know, have unimaginably huge debt."
This particular Britishism that has spread around the net is really irritating. "Japan" is singular. But these days for some reason if you are referring to corporations, teams, or other sorts of groups you ignore this rule and use the incorrect "have" instead of "has". That's how people know that you are hip and with it on the Millenial Internets.
Ever heard of a mass noun?
Is that a Catholic phenomenon then?
But actually mass nouns are still singular.
http://grammar.about.com/od/mo/g/massnounterm.htm
.
Min of finance issues debt. BOJ buys debt. Interest is close to 0. Any interest payed is returned to MOF as a dividend, looks like this can go on forever.
Same for US
But if they are spending that money it should be going out into the economy & if they don't suck it back in (such as by paying interest on member bank deposits, having the banks park extra money back at the central bank) all that extra money will eventually devalue the money, causing the inflation rate to go up.
If they do suck the money back in, the government spending is just replacing the private sector in spending. They're taking it away from normal business making decision, doing government stuff like "building infrastructure" which all to often entails building bridges to nowhere or empty airports rather than more useful and productive enterprises.
The FEd had printed like 120 bill. a month, the ECB is right now printing about 130 bill. a month, despite all that printing the POG is down. The FEd will soon start printing again. May be Kyle actually is wrong.
Same for US
"The standard line is that devaluing the yen is going to halt deflation, spur exports and bring about economic growth. This is the story told. It's a ridiculous concept parroted by Paul Krugman..."
That is like reading the Grapes Of Wrath with all the parts about George cut out. Fiscal policy which will certainly involve infrastructure and defense spending, not *just* monetary policy, is the"George" part.
...and George, of course, is the protagonist in Of Mice and Men, not Steinbeck's other work Grapes of Wrath of Kahn in which the Klingons demand more austerity measures from the Kzinti in order to pay down their impossible past borrowing tab.
The Klingons drink ever more cases of Romulan Ale while shouting spittle at the poor Kzinti much like a Detroit home owner shoults at their faucet once the water is cut off..
And yes, the Romulans are the real villains as they skim the profits off their Ale sales while never getting their hands directly involved!
There are lots of moving parts to a downward spiral but the point is, it is downward with no reverse.
The unpayable debt will be defaulted on, either formally, or indirectly, through currency destruction. Both result in the same thing, sort of, but the people adversely affected are not the same under both scenarios.
In order to survive currency destruction, one must have equity, PMs, and property with intrinsic value. Cash will be for ass wiping and the 0s and 1s in the bank will be just that - worthless.
If Bass had any money at all do you think he'd let his head go without getting some hair implanted.
That shows confidence of who he is. Women can see hair pieces and plugs from a mile away and shy away from insecure wimps.
Are you implying that women want men with hair plugs..., what?
Japan, sooner or later, is going to create the worlds largest economic crater. The problem is the entire world banking system is playing the same game, so they can't rock the boat since they are in just as deep. Place not your faith in kings...or bankers......
Yes. Bass never has predicted when it will happen, he has just said it is inevitable.
He's no genius, Japan has killed thier currency before and for nearly 600 years they weren't allowed to even issue their own currency as a result.
Problem today is that all of the govenments are playing the same game of chicken so we'll need to watch what waves are made in the pond when it happens.
Kyle Bass just tries to position his fund in line with the odds while minimizing the risk. So if there is assymetry between upward potential (large) and the risk premium (small), he will consider entering a position. It's not about being right or wrong. If the odds are in your favor you have a better chance to have winners in your portfolio. Even if some bets won't work at all.
I don't quite understand where Chris thinks Bass is wrong.
Would Kyle lose his bets if the BOJ keeps printing & the Yen keeps dropping in value faster than other currencies?
Would he lose if ithe Yen completely collapsed and they issued a new alternative currency?
Kyle's simple advice in the past was borrow Yen and buy gold. Wouldn't a collapse of Yen be good for that position? As has been said, isn't there virtually zero chance the Yen will survive?
Yeah, I didn't see how Chris' article contradicted Bass or showed where he was "wrong".