Japan
08 November 2011
Japan鈥檚 market is more 鈥榬elaxed鈥� than some other regions as lessons learned from the Lehman collapse take hold
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Japan鈥檚 economy has rebounded remarkably well after the devastating earthquake in March, considering the state of the global economy. Still, its fiscal policy will need to be expansionary to facilitate reconstruction efforts, says PIMCO鈥檚 Asia-Pacific Portfolio Committee.
The investment manager鈥檚 team notes that over the year ending in the third quarter 2011, the country鈥檚 real GDP (accounting for inflation) took a hit, contracting a little over one per cent compared to world growth of 2.7 per cent. However, over the next year, the firm expects Japan鈥檚 real GDP growth to fall between one and 1.5 per cent, a conservative estimate and in line with predictions for world economic growth.
No doubt the hot story is emerging Asia鈥檚 growth, but developed markets such as Japan have been beneficiaries of the high single digit GDP figures. This is a welcome dynamic for a country that has faced two decades of stagnant growth after the Asian banking crisis in the 90s.
One of the reasons why Tomoya Masanao, managing director in PIMCO鈥檚 Tokyo office, believes that the country鈥檚 economic growth will outperform other major developed economies this year is because the country鈥檚 near-term policy focus will be on reconstruction from the March earthquake, leading to expansionary fiscal policies to facilitate them, in contrast to contraction in the US and Europe.
Masanao does not expect the Bank of Japan (BoJ) to implement aggressive quantitative easing in the near future as officials have publicly expressed concerns over central banks鈥� ability (or inability) to control the government bond yield.
Still, the BoJ has intervened in FX markets three times this year to weaken the domestic currency. The last intervention on 27 October, immediately following Europe鈥檚 announced haircuts on Greek bondholders, saw the domestic bond buying programme increase five trillion yen ($65 billion) while keeping interest rates at near zero.
In terms of the corporate outlook, Masanao identifies some risks. 鈥淲e are worried about spillover effects of deteriorating external demand from both Western developed countries and emerging Asia...Japanese corporates generally maintain healthy capital expenditure plans, but those plans will likely be cut back if PIMCO鈥檚 pessimistic outlook in the global economy materialises...We are also worried that political instability in Japan could further delay implementation of a large fiscal package for reconstruction.鈥�
In terms of securities lending trends, some market participants have noted that less stock is being loaned out but that corporate bonds, particularly domestic, are of increasing interest to clients. Since Japan鈥檚 corporates have better standing, are more attractive than European corporates and are in a better position to raise cash, this could point to expectations of increasing activity in credit markets in anticipation of capital expenditures.
According to Data Explorers鈥� third quarter review, the Japanese equities LongShort Ratio continued its downward trajectory fuelled by dividend trading and an element of directional short selling. The third quarter closed with over half of all securities falling within the 0-50 bps bucket and even fewer specials than before.
At end of September this year, lendable securities in Japan equity was at $348.1 billion and total balance out on loan was at $49.5 billion showing a securities lending fee of 36.95 bps and a securities lending return to lendable at 2.38 bps.
Notably, equity stocks in the Nikkei 225 showed returns of 1.48 bps with a lending fee of 18.93 bps and a utilisation rate of 5.11 per cent whereas Japan equity outside of the top firms by market cap showed a lending fee of 62.99 bps with a securities lending return of 4.82 bps and a utilisation rate of 9.9 per cent.
However, a spokesman at Data Explorers notes that as most Japanese companies which pay dividends do so at the end of the third quarter, the value of stock on loan tends to be inflated and more recent figures show it at $36.6 billion, slightly below the value before dividend season which was at $39 billion. Longs outnumber shorts by a factor of 10.
In terms of export growth, Japan has accelerated after several months of stagnation, while its merchandise trade balance returned to surplus in September, according to Standard Chartered.
鈥淔oreign investors have ceased liquidating Japanese equities and most major life insurance companies plan to rotate into [the government鈥檚 bonds] and other domestic assets in [the second half of the 2011 fiscal year]...We continue to think that [the yen] will not weaken sustainably until the US economy finds its footing and the tensions facing Europe subside. In terms of domestic factors, however, we are monitoring the sales tax debate as a possible source of future [yen] weakness. Recent flooding in Thailand may introduce another supply-chain disruption that could hamper Japanese trade just as recovery from this year鈥檚 natural disasters begins to gain traction.鈥�
Heard in the market
Sources familiar with the market say that Japanese investors tend to have strategic holdings and those that lend out stocks are keen to recall them to claim voting rights, resulting in a short squeeze just before the record date. In general, the market is a 鈥渃allable鈥� one though 鈥渘oncallable鈥� shares, which can be borrowed for as long as needed, are in high demand and can be lent out for higher premiums.
Lenders tend to be global custodians, insurance companies and corporate pension funds while public pension funds do not participate in stock lending in consideration of reputational risks associated with shorting holdings.
Regulations, however, are similar to other mature markets. Recently, Japan鈥檚 Financial Services Authority (FSA) extended a short selling ban to April 2012 which has been in place since the Lehman collapse. Naked short sales are restricted and disclosures are mandated for holders of positions of 0.25 per cent or more of outstanding issued stocks.
Other measures include banning short sales on allocated stocks on public offerings. This is a result of hedge fund practices, which drove share prices down before returning stock to borrowers. The bans, says a market participant at a major firm, have not impacted the trading side but rather just increased operational considerations. He adds that Japan鈥檚 regulators tend to pay attention to enacted measures in other mature markets, particularly the US and consider whether they might make sense domestically.
Although noting that Japan鈥檚 domestic lenders are relaxed, the eurozone crisis has caused some international participants to pull out of the securities lending market over counterparty default fears. In general though, domestic lenders have learned lessons from the Asian banking crisis in the 90s and the Lehman collapse. Procedures to liquidate collateral have been put in place and domestic vendors are more relaxed than before over potential default fallout.
Meanwhile, developments for the advent of CCPs into the securities lending market are advancing. The target is to have a centralised pool of collateral or DvP system in place 鈥� something which is 鈥渄efinitely going to happen鈥� though not for one or two years.
DvP development
In an annual report, president and CEO of the Japan 麻豆传媒 Depository Centre (JASDEC), Haruhiko Kato, outlined some of those development plans.
At present, securities companies, trust banks and other players are able to conduct securities lending transactions using cash, negotiable securities and other forms of eligible collateral, yet still face settlement risk since there has been no DvP settlement system.
In general, there are two types of transactions: securities-driven and cash-driven. On the whole securities-driven transactions, in which the lent securities are specified and cash and/or other securities collateralised, are predominant in Japan. Common reasons for borrowing stocks are to cover borrower鈥檚 shortages, lend stocks to customers and prevent fails. However, the absence of a DvP system has exposed the transactions to settlement risks.
Following the Lehman bankruptcy in 2008, counterparties could not accept receivable collateral despite having already delivered the lending stocks. At that time, although settlement fails in the market continued to occur up until the end of October, the Japan Government Bond Clearing Corporation (JGBCC) by and large cleared up the settlement fails by the end of September, within just two weeks of the collapse of Lehman Brothers (Japan).
This reinforced the importance of mitigating settlement risk and in January 2010, the FSA, which oversees banking, securities and exchange and insurance, identified the strengthening of securities clearing and settlement systems as an 鈥渦rgent issue鈥�.
In a report in 2010 after consultations with market participants, the FSA recommended that 鈥渋n order to reduce the settlement risk relating to stock lending transactions...possibly the parties should promptly prepare and publish a roadmap that includes the timing for the mandatory use of CCPs or the development of rules for DvP settlement.鈥�
Following the regulator鈥檚 report, JASDEC set up a subcommittee for settlement with the participation of nine securities companies, five trust banks, one securities finance company as well as representatives from relevant regulatory bodies and associations.
The emerging model is a hybrid of collateral calculation and transactional DvP settlement methods expected to enter into service in 2014.
The investment manager鈥檚 team notes that over the year ending in the third quarter 2011, the country鈥檚 real GDP (accounting for inflation) took a hit, contracting a little over one per cent compared to world growth of 2.7 per cent. However, over the next year, the firm expects Japan鈥檚 real GDP growth to fall between one and 1.5 per cent, a conservative estimate and in line with predictions for world economic growth.
No doubt the hot story is emerging Asia鈥檚 growth, but developed markets such as Japan have been beneficiaries of the high single digit GDP figures. This is a welcome dynamic for a country that has faced two decades of stagnant growth after the Asian banking crisis in the 90s.
One of the reasons why Tomoya Masanao, managing director in PIMCO鈥檚 Tokyo office, believes that the country鈥檚 economic growth will outperform other major developed economies this year is because the country鈥檚 near-term policy focus will be on reconstruction from the March earthquake, leading to expansionary fiscal policies to facilitate them, in contrast to contraction in the US and Europe.
Masanao does not expect the Bank of Japan (BoJ) to implement aggressive quantitative easing in the near future as officials have publicly expressed concerns over central banks鈥� ability (or inability) to control the government bond yield.
Still, the BoJ has intervened in FX markets three times this year to weaken the domestic currency. The last intervention on 27 October, immediately following Europe鈥檚 announced haircuts on Greek bondholders, saw the domestic bond buying programme increase five trillion yen ($65 billion) while keeping interest rates at near zero.
In terms of the corporate outlook, Masanao identifies some risks. 鈥淲e are worried about spillover effects of deteriorating external demand from both Western developed countries and emerging Asia...Japanese corporates generally maintain healthy capital expenditure plans, but those plans will likely be cut back if PIMCO鈥檚 pessimistic outlook in the global economy materialises...We are also worried that political instability in Japan could further delay implementation of a large fiscal package for reconstruction.鈥�
In terms of securities lending trends, some market participants have noted that less stock is being loaned out but that corporate bonds, particularly domestic, are of increasing interest to clients. Since Japan鈥檚 corporates have better standing, are more attractive than European corporates and are in a better position to raise cash, this could point to expectations of increasing activity in credit markets in anticipation of capital expenditures.
According to Data Explorers鈥� third quarter review, the Japanese equities LongShort Ratio continued its downward trajectory fuelled by dividend trading and an element of directional short selling. The third quarter closed with over half of all securities falling within the 0-50 bps bucket and even fewer specials than before.
At end of September this year, lendable securities in Japan equity was at $348.1 billion and total balance out on loan was at $49.5 billion showing a securities lending fee of 36.95 bps and a securities lending return to lendable at 2.38 bps.
Notably, equity stocks in the Nikkei 225 showed returns of 1.48 bps with a lending fee of 18.93 bps and a utilisation rate of 5.11 per cent whereas Japan equity outside of the top firms by market cap showed a lending fee of 62.99 bps with a securities lending return of 4.82 bps and a utilisation rate of 9.9 per cent.
However, a spokesman at Data Explorers notes that as most Japanese companies which pay dividends do so at the end of the third quarter, the value of stock on loan tends to be inflated and more recent figures show it at $36.6 billion, slightly below the value before dividend season which was at $39 billion. Longs outnumber shorts by a factor of 10.
In terms of export growth, Japan has accelerated after several months of stagnation, while its merchandise trade balance returned to surplus in September, according to Standard Chartered.
鈥淔oreign investors have ceased liquidating Japanese equities and most major life insurance companies plan to rotate into [the government鈥檚 bonds] and other domestic assets in [the second half of the 2011 fiscal year]...We continue to think that [the yen] will not weaken sustainably until the US economy finds its footing and the tensions facing Europe subside. In terms of domestic factors, however, we are monitoring the sales tax debate as a possible source of future [yen] weakness. Recent flooding in Thailand may introduce another supply-chain disruption that could hamper Japanese trade just as recovery from this year鈥檚 natural disasters begins to gain traction.鈥�
Heard in the market
Sources familiar with the market say that Japanese investors tend to have strategic holdings and those that lend out stocks are keen to recall them to claim voting rights, resulting in a short squeeze just before the record date. In general, the market is a 鈥渃allable鈥� one though 鈥渘oncallable鈥� shares, which can be borrowed for as long as needed, are in high demand and can be lent out for higher premiums.
Lenders tend to be global custodians, insurance companies and corporate pension funds while public pension funds do not participate in stock lending in consideration of reputational risks associated with shorting holdings.
Regulations, however, are similar to other mature markets. Recently, Japan鈥檚 Financial Services Authority (FSA) extended a short selling ban to April 2012 which has been in place since the Lehman collapse. Naked short sales are restricted and disclosures are mandated for holders of positions of 0.25 per cent or more of outstanding issued stocks.
Other measures include banning short sales on allocated stocks on public offerings. This is a result of hedge fund practices, which drove share prices down before returning stock to borrowers. The bans, says a market participant at a major firm, have not impacted the trading side but rather just increased operational considerations. He adds that Japan鈥檚 regulators tend to pay attention to enacted measures in other mature markets, particularly the US and consider whether they might make sense domestically.
Although noting that Japan鈥檚 domestic lenders are relaxed, the eurozone crisis has caused some international participants to pull out of the securities lending market over counterparty default fears. In general though, domestic lenders have learned lessons from the Asian banking crisis in the 90s and the Lehman collapse. Procedures to liquidate collateral have been put in place and domestic vendors are more relaxed than before over potential default fallout.
Meanwhile, developments for the advent of CCPs into the securities lending market are advancing. The target is to have a centralised pool of collateral or DvP system in place 鈥� something which is 鈥渄efinitely going to happen鈥� though not for one or two years.
DvP development
In an annual report, president and CEO of the Japan 麻豆传媒 Depository Centre (JASDEC), Haruhiko Kato, outlined some of those development plans.
At present, securities companies, trust banks and other players are able to conduct securities lending transactions using cash, negotiable securities and other forms of eligible collateral, yet still face settlement risk since there has been no DvP settlement system.
In general, there are two types of transactions: securities-driven and cash-driven. On the whole securities-driven transactions, in which the lent securities are specified and cash and/or other securities collateralised, are predominant in Japan. Common reasons for borrowing stocks are to cover borrower鈥檚 shortages, lend stocks to customers and prevent fails. However, the absence of a DvP system has exposed the transactions to settlement risks.
Following the Lehman bankruptcy in 2008, counterparties could not accept receivable collateral despite having already delivered the lending stocks. At that time, although settlement fails in the market continued to occur up until the end of October, the Japan Government Bond Clearing Corporation (JGBCC) by and large cleared up the settlement fails by the end of September, within just two weeks of the collapse of Lehman Brothers (Japan).
This reinforced the importance of mitigating settlement risk and in January 2010, the FSA, which oversees banking, securities and exchange and insurance, identified the strengthening of securities clearing and settlement systems as an 鈥渦rgent issue鈥�.
In a report in 2010 after consultations with market participants, the FSA recommended that 鈥渋n order to reduce the settlement risk relating to stock lending transactions...possibly the parties should promptly prepare and publish a roadmap that includes the timing for the mandatory use of CCPs or the development of rules for DvP settlement.鈥�
Following the regulator鈥檚 report, JASDEC set up a subcommittee for settlement with the participation of nine securities companies, five trust banks, one securities finance company as well as representatives from relevant regulatory bodies and associations.
The emerging model is a hybrid of collateral calculation and transactional DvP settlement methods expected to enter into service in 2014.
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