As inflationary melt ups go, this one’s starting to get impressive. The S&P 500 and the Dow Jones Industrials both closed at all time highs again in US trading overnight. America’s blue chip indices are up 18.28% and 18.07% year to date, respectively. That’s a good return for an entire year, much less four and half months.
But the US has nothing on Japan when it comes to boosting stock prices with money printing. Japan’s Nikkei 300 is up 46.6% so far this year. Yes, you read that correctly. An index of major stocks in the world’s third largest economy is up 44% this year. And it’s not even June.
Japan’s GDP grew by 3.5% in the first quarter, according to government figures released yesterday. Here, then, is proof that there is strength in weakness. The Yen is down 16% against the dollar and 14% against the euro this far. Department store spending was up in March and consumer confidence reached a six-year high, according to Bloomberg.
Can you really make people wealthier by making them feel wealthier? Well, Japan is having a red hot go at the idea. The chart below shows Japanese stocks going into high gear since April, when the Bank of Japan declared war on the Yen. The S&P’s gain is modest by comparison.
The year-to-date 10.42% gain in the All Ordinaries shows that when it comes to ramping up stock prices through inflation, Australia can’t compete with the two Pacific powers. The red line is Google, which is nearing $1,000 per share. We’ll come back to that shortly.
Here’s a thought though. You can’t go messing with a $10 trillion market and expect things to run smoothly forever. Government bond yields in Japan are actually rising. In fact, yields on five-year Japanese government bonds rose above yields on five-year German bonds for the first time in 20 years yesterday. Three of Japan’s major banks have already raised interest rates on 10-year mortgages.
Rising borrowing costs are the exact opposite of what you want when you’re pumping money into an economy. Granted, Japan’s government bond yields are coming off a very low base. And the rise in 10-year housing rates was from 1.35% to 1.40%. That’s not going to crimp anyone’s style.
The issue is liquidity. At the peak of its initial QE efforts, the Federal Reserve bought 60% of all new bonds issued by the US Treasury. In Japan, the current figure is closer to 70%, according to today’s Wall Street Journal. And that’s the problem.
When the central bank steps into to be the main buyer in a market, it crowds everyone else out. With a smaller amount of JGBs actually trading each day, the bonds that ARE trading seem to be more reactive to what’s happening in the economy. Perversely, the GDP numbers might spark inflation fears, in which case falling bond prices and rising yields are exactly what you’d expect.
The trouble for Japan is that this is happening way too soon. It needs several quarters of solid GDP growth before the bond market starts to freak out about inflation. But this is the problem when you go messing with huge government bond markets. You just don’t know what the unintended consequences will be.
One intended consequence is rising stock prices. But not just in Japan. The move out of JGBs seems to have sparked a major shift in global capital flows. This has been great for US-dollar denominated assets. It hasn’t been great for Australia. And it doesn’t seem to be getting any better.
Australian stocks got hammered at the opening yesterday. When we asked Murray to explain it this morning, he said that it’s just an example of off-shore currency moves causing leveraged traders to exit equities. He didn’t put it exactly that way, of course. But the point was taken.
From here, you’d reckon further falls in Australian stocks could come the higher the Yen goes. The higher the Yen goes, and the weaker the Australian dollar gets, the more likely it is that capital that’s been parked in Australia’s high yielding stocks and bonds and in the dollar will go walkabout, and may not come back for a good long while.
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From the Archives…
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