When it comes to the Bank of Japan's actions (or inactivity as case may be), traditionally the market's focus has been on whether or not Kuroda would expand QE and/or cut rates. However, while far less noticed, the central bank's aggressive purchases of ETFs are becoming a troubling reality. Recall that in April the BOJ was revealed to already be a top 10 holder in about 90% of all Japanese stocks.
As Bloomberg reported, as of April the BOJ ranked as a top 10 holder in more than 200 of the Nikkei gauge’s 225 companies. "The central bank effectively controls about 9 percent of Fast Retailing Co., the operator of Uniqlo stores, and nearly 5 percent of soy sauce maker Kikkoman Corp. It has an estimated shareholder rank of No. 3 in both Yamaha Corp., one of the world’s largest makers of musical instruments, and Daiwa House Industry Co., Japan’s biggest homebuilder."
The news followed the just as striking disclosure that the BOJ is already an owner of more than half of all Japanese ETFs.
And while the BOJ may have disappointed when it did not expand its QE program, or change its already negative rates, going forward the BOJ will be an even bigger owner of equities having boosted its annual pace of ETF purchases to ¥6 trillion, or $58 billion, up from the current ¥3.3 trillion.
What does this mean in context?
For the answer we go to Evercore ISI who puts the BOJ's expanded ETF purchases in perspective. As Evercore writes, it's not clear how BoJ's purchases of more ETFs would provide a significant boost to economic activity and generate inflation, "but its impact on equity fund flows is non-trivial. Over the next year, BoJ is scheduled to purchase ¥6t ($58b) in ETFs, and $116b over the next two years. By June of 2018, BoJ is likely to hold ¥20.5t ($200b) in ETFs."
Here are three ways to put BoJ's purchases in perspective:
- The US market cap is 5x Japan’s, so this new stimulus can be viewed as equivalent of the Fed purchasing $580b in ETFs over the next two years, and the Fed holding $1t in ETFs. Of course, this is just a hypothetical exercise as the Fed is prohibited from purchasing equities. But the new stimulus illustrates that BoJ is concerned with the severity of bearishness in Japan's equity market, and that such drastic purchases are necessary to reverse the bearishness.
- In Oct 2014, Government Pension Investment Fund announced a new asset allocation of its ¥127t assets. Among other changes, its domestic equity allocation increased from 17% to 25%, or an increase of +¥10t. So BoJ's ETF purchases over the next two years and GPIF's equity purchases may be in the same ballpark.
- So far this year, foreign investors have sold almost ¥5t in net of Japanese equities. That's smaller than BoJ's annual purchase rate of ¥6t.
These points above are not to diminish the importance of the yen. No doubt weaker yen is a critical component in exiting from deflation and a long-term success of Abenomics at large. Weaker yen is probably a necessary condition for a positive feedback loop: yen weakening leads to increases in earnings, which then increase business confidence, wages, domestic capex, prices, dividends, etc. And the yen and the Nikkei are still likely to be highly correlated. But regardless of the level of the yen, BoJ will continue to buy ETFs, which may affect the correlation between the yen and the Nikkei.
This means that the BOJ may be shifting away from pure monetary policy, while increasingly emphasizing the only thing that really matters: keeping stocks propped up.
In conclusion Evercore observes the following two major shifts underway In Abenomics
- Earlier last week, Abe announced larger-than-expected fiscal stimulus. Then on Friday, Kuroda announced smaller-than-expected monetary stimulus. Increasingly, it appears that policymakers are shifting from a policy mix heavily dependent on BoJ toward a combination of fiscal and monetary stimulus. Policymakers may have accepted that the current political climate will not allow them to pursue aggressive measures targeted mainly to weaken the yen.
- Early this year, policymakers viewed the stronger yen as the most critical issue, and implemented negative rates to weaken the yen at the expense of financial institutions. Since the start of negative rates, however, criticism against negative rates has been fierce from financial institutions, eg, Bank of Tokyo-Mitsubishi UFJ quitting as a JGB primary dealer. Friday's smaller-than-expected BoJ stimulus may signal a shift from “weaker-yen-at-all-costs” toward putting less strains on financial institutions. Of course, this may be due to the global political climate which limits Japan from pursuing aggressive measures to weaken the yen.
In summary, a turbulent period may be ahead as Japan transitions from monetary to fiscal stimulus, but at least the BOJ's direct purchases in the equity market should keep stocks modestly propped up.