There was a somewhat surprising development late last week when instead of stepping back from yield curve control, concluding the policy is a "success", the Bank of Japan reportedly planned to shift its annual $55BN ETF scheme so it only buys stocks when their price is going down, not up. "Hilariously", Rabobank's Michael Every wrote, "Bloomberg interprets the latter as “BOJ stimulus being rolled back”. The correct interpretation is that the BOJ has an open policy of targeting equity prices - just as it and the ECB have of targeting bond prices."
Fast forward to this weekend when, with the news having been properly leaked in advance, the BOJ's semi-official mouthpiece, the Nikkei (parent of the Financial Times) confirmed that the Bank of Japan would consider changes to its approach to purchasing exchange-traded funds at its policy board meeting this week, "a potentially significant move by the institution that has become the top holder of Japanese stocks."
Confirming earlier trial balloons, the Nikkei reported that "some at the central bank" have proposed eliminating its 6 trillion yen ($55 billion) annual target in favor of an approach that allows for greater flexibility to adjust to market conditions "as the risks of buying in an overheated market become more apparent."
Based on recent market data, the BOJ has already sharply scaled back ETF purchases this year, and the YTD total stood at only
350.7 billion yen as of Friday, a seven-year low and a 76% drop from the same period in 2020. If buying continues at the current pace, the annual total would come to about 1.8 trillion yen. The size of individual purchases has also fallen to 50.1 billion yen per day. Over the same period last year, purchases were in the 70 billion yen to 100 billion yen range, even reaching 200 billion yen during the peak of the covid pandemic.
According to the Nikkei, the change "reflects rising stock prices that have reduced the need for the BOJ to supply capital to the market".
The bank bought ETFs on just one day in February, a month when the Nikkei Stock Average hit a 30-plus-year high in the 30,000 range.
Alternatively, as Michael Every noted earlier, the BOJ has admitted that its ETF purchases are merely a means to stabilize stock prices and avoid crashes in the market. But naturally, this is something the BOJ can never admit officially as it would immediately put into question the fair value of Japanese stocks excluding BOJ intervention (according to several bank analysis, the Nikkei would be less than 50% its current value if one excluded the BOJ purchases).
In preparing markets for the upcoming change, while the BOJ had in recent years stepped in with purchases in the afternoon after morning sessions in which the Topix fell more than 0.5%, this changed last month with the bank staying in wait-and-see mode even when this condition was met (though it did respond to larger drops).
When the central bank launched the ETF-buying program in December 2010 under then-Gov. Masaaki Shirakawa as part of its monetary easing program, it set an annual target of about 450 billion yen. The scheme has expanded massively under his cartoonish successor, Haruhiko Kuroda, to its current pace of a record 6 trillion yen per year, with a "ceiling" of 12 trillion yen.
So aggressive has the BOJ buying been that the bank recently surpassed the Government Pension Investment Fund - also known as the "whale" for its massive market presence - as the top holder of Japanese stocks, with the book value of its ETF holdings clocking in at 35.7 trillion yen at the end of February.
Amusingly, after a decade of constant central bank intervention, there is "growing concern" among market watchers - all of whom would be broke if it hadn't been for the BOJ - that continued buying could interfere with market functions. And if share prices plunge, the BOJ may suffer losses or even drop into negative net worth... at which point it would simply print more money.
And so, in light of these "side effects and risks" - created by none other than the central bank itself, the BOJ will review its approach to ETF purchases at the upcoming policy board meeting. The thinking goes that by holding back on buying when market conditions are normal, the BOJ will have more leeway for big moves when share prices plunge.
"Conducting purchases flexibly in a prioritized manner will lead to enhancing the sustainability of monetary easing," Deputy Gov. Masayoshi Amamiya said in a recent speech.
How this will affect the bank's buying target and ceiling is a key question. Lowering the 12 trillion yen cap, or eliminating it entirely, could be interpreted as a retreat from easing, and could result in a market crash that promptly draws the BOJ right back in. As such, Kuroda is likely to maintain the ETF purchases "as is" to avoid turmoil that could drag down stock prices and lead to a spike in the yen.
On the other hand, the 6 trillion yen target is seen as fair game to scrap, according to a senior BOJ official. The central bank will consider removing this potential obstacle to flexibility, while keeping an eye on market trends.
Like the Fed and ECB, the BOJ is conducting a broad re-examination of its monetary policy as the economic damage caused by the coronavirus pandemic makes its target of stable inflation of about 2% an even more distant prospect. The results of this review will be presented at next week's meeting. The central bank is also expected to raise the possibility of lowering its long- and short-term interest rate targets further if needed, while also coming out with measures to avoid further squeezing the earnings of financial institutions.