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2013/01/02

Speculator’s Corner: Bigger Than The Fiscal Cliff

 
 
Dynamic Wealth Report  |  Wednesday, January 2, 2013



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Speculator's Corner:  Bigger Than The Fiscal Cliff

By Corey Williams, Options Trading Research

All of the talk around financial markets these days seems to center on the fiscal cliff in the US.  As I'm sure you know by now, automatic tax hikes and spending cuts will kick in this week unless politicians can agree on a plan to reduce the Federal Government's budget deficit.

Here's the kicker… going over the fiscal cliff will almost certainly throw the US economy into a recession.

Despite the ill effects the fiscal cliff poses to our economy, politicians haven't been able to reach an agreement.  But here's something you might not know…

The fiscal cliff isn't even the most important economic decision politicians are making right now.  In fact, American politicians aren't even involved… it's Japanese politicians.

You see, the world's third largest economy has been battling a vicious deflationary cycle for decades.  Falling prices eat into corporate profits, forcing them to cut jobs and put off investment.  It also encourages consumers to put off making purchases they could make later at lower prices.

Nothing Japan or their leaders has done has been able to break the cycle of deflation.

Newly elected Japanese Prime Minister Shinzo Abe is aiming to finally break the cycle of deflation.  His plan is to implement an inflation target of 2%.

Normally, this type of monetary policy is the kind of thing Japan's central bank, Bank of Japan (BoJ), deals with.  And much like the Federal Reserve in the US, the BoJ operates independently of the Federal Government.

As a result, politicians have little or no power to dictate monetary policy.

But Mr. Abe isn't buying it.  He's stated that the BoJ must go along with his 2% inflation target or "we'll revise the BoJ Law and set up a policy accord with the central bank to agree on an inflation target."

Obviously, this is a drastic step.  It means that Japan will soon begin monetizing their debt and debasing their currency.  Or in other words, the value of the Yen is going to fall compared to the US Dollar and other major currencies.

Here's where it gets interesting…

Over the last 20 years, there has been a strong inverse correlation between the Japanese currency and Japanese stocks.  When the Yen is strengthening, stocks fall. But when the Yen is weakening, stocks soar.

In fact, the new Prime Minister's words have already sparked a rally in Japanese stocks.

And this is only the tip of the iceberg…

Japanese stocks have never had the big rebound after the 2008 financial crisis like other major stock markets.  But with new monetary and fiscal policy in place, Japanese stocks are ripe for a massive rally in 2013.

Here's the thing… As an investor living outside of Japan, a weakening Yen will work against any investment you make in Japanese stocks.

In order to offset the impact of the declining currency, investors should have some sort of hedge against the Yen.  You can do this with options or by trading in the forex markets.  But it can be a little confusing.

A simpler way to get exposure to Japanese stocks and hedge your exposure to the Yen at the same time is to buy the WisdomTree Japan Hedged Equity ETF (DXJ).

DXJ invests in 271 of the top dividend paying Japanese stocks.  And at the same time, it hedges against changes in the value of the Yen versus the US Dollar.

In the end, I believe we'll see the decision of the new Japanese Prime Minister to target a 2% inflation rate is much more important than the US fiscal cliff.  And thanks to WisdomTree's Japan Hedged Equity ETF, there's a simple way to get in on the action.

Good Investing,

Corey Williams




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