Bank of Japan Drops Ball, Government Pension Fund Stops Buying Stocks, Nikkei Plunges, J-REITs Eviscerated

On Tuesday, Japanese stocks took the worst drubbing of the major Asian stock markets. The Nikkei plunged 725 points or 3.84% to 18,165. On August 10, it had set a multi-year high of 20,808. At the time, Japanese stocks gleamed; they’d elegantly skirted the China swoon. But over the past three weeks, the Nikkei has dropped 12.7%.

Japan has some, let’s say, issues. Private consumption dropped 0.8% in the last quarter, and GDP dropped 0.4%. The economy shrank in six of the past 12 quarters. That’s how well Abenomics has worked out for the economy.

But during that time, stocks have more than doubled! That’s where the real impact of Abenomics has been.

To his credit, Shinzo Abe decided to achieve a national consensus on how to deal with Japan’s mountain of government debt and mega-deficits that add to it every year. He ran on that platform in 2012: Japan would print itself out of its fiscal troubles. And the price would be paid over time by the Japanese people.

The Bank of Japan had been engaging in QE before the term had even been invented, buying Japanese Government Bonds (JGBs) and equity ETFs as part of its policy. But under Abenomics, its purchases skyrocketed, purposefully strangling the JGB market, thus taking complete control over it.

If it loses control, the world will see the most epic debt crisis ever. Since nearly all JGBs are held in Japan, a debt crisis would spread chaos over the land. So there won’t be a debt crisis. That’s the message. There will be other crises, but no debt crisis.

With its mega-QQE program, the BOJ has purposefully watered down the yen, thus firing off an explosive round in the currency war a couple of years ago, hitting South Korea and China directly.

And it has inflated the prices of stocks and real estate, not only indirectly as the Fed has pioneered on a massive scale, but also directly, by jumping with both feet into equity ETFs and Japanese Real Estate Investment Trusts (J-REITs).

By the end of 2012, just before Abenomics became effective, the BOJ carried on its balance sheet ¥1.5 trillion in equity ETFs and ¥111 billion J-REITs. As of its August report, its holdings of ETFs have soared to ¥5.9 trillion and J-REITs to ¥245 billion. It now holds about 2.3% of all J-REITs by market capitalization!

To further inflate asset prices, the government also converted the reluctant, conservatively managed, low-cost, thinly staffed Government Pension Investment Fund (GPIF) into a hedge fund. It would dump a big chunk of its JGBs into the lap of the BOJ and buy riskier domestic and international assets, including “alternative assets.”

When these discussions surfaced, Japanese stocks soared. The whole world was watching. As more details trickled out, Japanese stocks soared. When the fund announced that it would raise its holdings of Japanese stocks to 25% of its total assets, stocks soared. Everyone knew that the fund, with ¥141 trillion in assets ($1.17 trillion), would be an enormous force in the markets: it would buy ¥35 trillion in Japanese stocks in a short time.

When the GPIF started buying, supported by the BOJ’s ongoing ETF purchases, stocks soared. The entire world of hedge funds was riding this gravy train to financial nirvana.

Other Japanese pension funds followed the same model. They would fill their increasingly large funding holes by loading up on riskier assets, particularly Japanese stocks that could only go up.

So the hype about Japanese assets has been enormous. Foreign hedge funds piled into stocks and J-REITs. The Chinese piled into Tokyo prime real estate. The wealth effect from asset price inflation would make a few folks large amounts of money.

J-REITs were hot. Back in mid-January, the Tokyo Stock Exchange J-REIT Index hit 2,000. It had doubled over the Abenomics years. It had become the manifestation of the power of the BOJ and the government to manipulate up the stock market in a targeted and precise manner.

But last week, the GPIF released its statement for the quarter ended June 30. Turns out, the fund nearly completed its shift into Japanese equities, having increased its holdings of them to 23.4% of its total assets, just 1.6 percentage points short of its target of 25%. By now, that target has likely been reached. And the GPIF has stopped buying Japanese stocks.

Now what?

The whole world of hedge funds knows that. Now the Nikkei is down nearly 13% in three weeks, and in the general swoon of Japanese stocks, J-REITs got eviscerated. Today, the J-REIT Index closed at 1,621, down 19% from January.

Investors that had hopped on that gravy train are now re-learning a lesson. Central banks can control their government bond markets. They cannot control their stock markets. They can only manipulate them. But that manipulation works only if everyone believes in it.

Japanese consumers have borne the brunt of Abenomics, and they’re now hitting the real economy. Read… Worst Year for Car Sales in Japan since Earthquake Year 2011

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  15 comments for “Bank of Japan Drops Ball, Government Pension Fund Stops Buying Stocks, Nikkei Plunges, J-REITs Eviscerated

  1. Lee says:

    “And it has inflated the prices of stocks and real estate, not only indirectly as the Fed has pioneered on a massive scale, but also directly, by jumping with both feet into equity ETFs and Japanese Real Estate Investment Trusts (J-REITs).”

    The point should be made that the real estate under discussion has to do with commercial real estate and probably large real estate holdings in the big cities.

    The average person holding a small plot of land has see very little if any increase and more likely a FALL in the value of their holdings.

    Real estate in the small to medium size cities in Japan is cheap and getting cheaper with the hollowing out of the countryside.

    • Shawn says:

      Real estate makes no sense anymore. Populations in most of the developed world are static or declining, particularly in a country like Japan. Yet, housing keeps going up. Britain is another country that comes to mind, in a similar situation.

      • NotSoSure says:

        Actually it kinda makes sense in Japan. Real estate in Tokyo should rise since more and more people are abandoning the country side to go to the big cities, and as one of the people here has commented, prices in the country side have declined to reflect this.

  2. Robert says:

    The GDP in Japan is not shrinking because of Abenomics. The cause is a decreasing population for eight years now and the rate of this is increasing.
    Fewer workers and more retirees means a smaller economy. The only other thing they could do is increase productivity!

    • NotSoSure says:

      Well, there’s also the huge debt overhang. You can be super productive, but the debt load is also super productive thus nullifying any gains you have.

      • Robert says:

        Partner, using the current Western Ponzi System, debt always increases and this is ok as long as the economy grows at an appropriate pace. This is a Ponzi because the continuation depends upon an ever increasing population…New Participants, entering the pyramid at the bottom to provide the revenues to support the unfounded liabilities at the top as they become capital expenses!
        You are aware that the government spends your pension money as you pay into it and then defers the expense to the next generation. They don’t save it aside for you!

      • Robert says:

        The problem with Japan is that the rate of population growth began decreasing 25 years ago. The growth rate turned negative eight years ago. This has made Japan a country that will implode economically.
        The U.S. Will implode because fewer people are working and incomes are decreasing. The final result will be the same!

        • Robert says:

          The difference is that Japan’s population is actually decreasing, but America’s continues to increase, albeit with an educational system that is not at present conducive of producing the highest value-added employment; this is where Germany excels, but high taxes, bureaucracy and other factors have discouraged families from producing enough children to stop the general aging of the population. It must be a bitter irony for a country that onced prized Aryan purity to be now encouraging huge numbers of desperate young Middle-Eastern refugees to settle there, as was in the news this week

        • Robert says:

          Actually the U.S. Population growth rate is currently at an all time low not experienced since The Great Depression.
          The wisdom of Germany is that the majority of their production in done by middle sized companies and not controlled by giant corporations. More employment results from this, it reduces the odds of domination over the political system and does not create entities that are too big to fail requiring tax payer bailouts!

  3. Julian the Apostate says:

    Being more productive is only half the equation. There must be buyers for your increased production. It is not there. Not anywhere in the world right now. The car ads are becoming more strident lately, zero interest loans are back and big bonuses on certain models. It’s not yet the fever pitch of buy one get one free of 2009 but it won’t be long. That’s just one product. People will repair and replace, but just to buy something on impulse is dead as Caesar. Shopping has become hunt it down and kill it, and if whatever they need or came in for isn’t there, they go back out without making a purchase.

    • MC says:

      Julian, you hit the nail squarely on the head by dragging out the poster child for massive overcapacity.

      To stay in Japan, last year Panasonic (formerly Matsushita) and FANUC unveiled a pioneer plant wholly “staffed” by robotics. It’s capable of manufacturing a massive two million high end LCD and plasma TV sets per month with just 27 humans working in the whole plant.

      It’s undoubtedly a massive engineering and organizational feat but it just adds capacity on top of all the factories Panasonic already has, chiefly in Mainland Asia… is the market ready to absorb another 24 million high end TV sets per year? The most recent figure I found says the worldwide market for TV sets is 240 million units/year.

      Granted, Panasonic won’t run the assembly lines at full speed all the time, but the capacity to add a massive 10% is there, ready to be unleashed at the push of a button.

      Many big Japanese keiretsu have followed Panasonic’s example: they grabbed the free money printed by the Bank of Japan (BOJ) and increased capacity. Sumitomo Mining opened new mines in Australia, Hitachi Koki added whole new product lines by expanding existing factories, Yamabiko Corporation built a wholly new assembly plant in China (intriguingly enough it assembles gardening/forestry equipment from components made in Japan, very much like their factory in the US), Toyota built a new factory in Thailand to assemble more pickup trucks… the process appears to be still ongoing, probably because expansion plans have gone too far ahead to be stopped now.

      The problem is that Japanese companies, very much like their competitors from Germany, South Korea, China etc, have to find buyers for all that new production.

      If carmakers can count on a big assist from banks and governments (always remember they are “too big to fail” and “what’s good for carmaker X is good for the country”), that big assist is wholly dependent on extraordinary monetary conditions that are already evaporating.

      But others aren’t so lucky: construction/mining equipment manufacturers such as Caterpillar, Komatsu, Liebherr etc are getting pounded by the commodity bubble burst and the end of the Chinese housing bubble, which will be soon joined by the other, highly localized bubbles around the world. Foresty equipment manufacturers such as Stihl, Husqvarna, Makita etc are feeling the crunch of decreased demand for lumber and wood pulp. So far they have attempted shifting towards the retail market, but the downward pressure in prices (the Chinese aren’t sitting idly) makes sure their margins are not spectacular as they once were.

      I could go on all day.

      The same monetary policies that made the massive increase in capacity possible didn’t result in a similarly massive increase in demand, especially from consumers.

      Consumers are not only overleveraged, but having to deal with stagnating/contracting real wages has honed their shopping skills. If you take cars out of the picture (because they can be wholly financed), impulse buying is dying if not dead.

      My personal indicator is the number of requests I get from people on advice on power equipment. Even people buying “hobby” equipment want to make absolutely sure they are getting the best deal possible: until a couple years ago they just headed to the local big box store and bought a cheap chainsaw or lawnmower. Now they have become far more careful with their money. Intriguingly enough, many are ready to spend more “if this machine will last”.

      Our consumer model is in big big big troubles…

    • Robert says:

      Let me rephrase the point; Japan has a decreasing population that if left uncorrected will be the only cause of it’s eventual collapse. This process of decreased population and therefore GDP has been going on for decades now and cannot be blamed on any one mind like Abe because it has developed over decades and has a history of failures to blame it on.
      1. Japan can develop an immigration agenda to counter this; new citizens need food, housing, transport, jobs, etc and this will increases GDP and tax revenues. But the Japanese do not want immigration because they are racist and so immigration is taboo talk in Japan.
      2. Productivity gains could offset the human capital losses through attrition and retirement, but the levels required to restore financial viability to Japan make this option on it’s own entirely impractical. It would require massive gains in productivity as yet unseen anywhere in the world. Increased productivity increases GDP given the same population. But this alone will not increase tax revenues unless the beneficiaries of the productivity gains are taxed on it.

      By decreasing population size Japan is experiencing a decreased quantity and quality of taxable events to fund the government and support the government , government programs, and the economy. This erosion will result in a collapse at some point!

      • Wolf Richter says:

        Robert, you’re right, but…

        Japan is an immensely crowded country, esp. in the two vast urban areas where most Japanese live and work. Much of the country is mountainous. And Hokkaido, the largest island, is too far from the center, and it’s the country’s largest ag area. Ever been on a rush-hour train in the Tokyo area? Ever seen an average apartment?

        It’s very tough raising a big family under these conditions. That’s one of the reasons the Japanese have fewer kids. Eternal population growth simply doesn’t work in Japan. It has reached its limit – that’s what the Japanese have decided on an individual basis.

        The result will eventually be higher quality of life for each individual, larger apartments, less crowded trains, less pollution, etc.

        Low unemployment in Japan, particularly the low youth unemployment, already is the envy of most developed countries. Reasons: fewer young people moving into the workforce.

        On a per-capita basis, GDP growth over the past 20 years looks pretty good in Japan. On the basis on working-age adults, it looks very good. Once the population drops to a level that allows people to live in greater comfort and with more space, nature will once again exert itself and the population decline will halt.

        But politicians hat it because they get fewer taxpayers, and because the promises they made decades ago will blow up, along with Japan’s debt (most likely via the currency).

        And corporations hate it because they get fewer customers, and because they might have to pay more to attract workers, improve working conditions, etc. What corporations want: unlimited cheap labor and an ever-growing customer base.

        Other countries too are kicking that corporate and political dream of eternally growing populations in the butt, including China and most countries in Europe.

  4. lG says:

    Inflation is a bitch. Not for the banks though.

  5. Blue Republic says:

    Japan does indeed have issues, one of the most important being that for the elite that really run things, the system works just fine and they don’t seem to have a problem with shafting everyone else or crashing the economy to keep the system going a while longer.

    Population decline is certainly not without benefits, farmland is
    effectively free to use, with eight million or so vacant houses in
    the country prices for used houses are becoming cheap even in
    the outlying suburbs of major cities – a friend just bought a house
    a couple blocks from the beach south of Osaka for less than $25K
    the New York Times had a recent article about houses in Yokosuka, near Tokyo going for much less than that.

    Never thought I would see it happen, but Japanese people are showing some signs of waking up and reacting to the incompetence and authoritarianism of Abe and the people pulling his strings, but even people fairly knowledgeable about business and economics are not really aware about how the ruling class is
    going about blowing up the economy in such a way as to
    put all the losses off on ordinary people while protecting themselves.

    Unfortunately, the government has not yet run out of “whales” –
    they would love to have the now-biggest holder of JGB’s, the
    Japan Postal Bank go the way of GPIF: selling their 100 trillion yen
    or so of JGB’s to the BOJ for vapor money which they would then dump into the stock market and REITS.

    But it’s going to get interesting about the time that pension funds
    have to report how much money they lost on equities, not to mention when corporate bond investments (that Wolf has previously written about) start blowing up, too.

    Interesting, as they say, times.

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