OREANDA-NEWS. June 24, 2015. In a widely expected move, US Federal Reserve Chair Janet Yellen held key interest rates steady on 17 June.

The US Federal Reserve said it would raise rates when it had "seen further improvement in the labour market" and was "reasonably confident" that inflation would reach the 2% target in the "medium term".

Any rate hike will be gradual once started.

Following the FOMC decision, the US dollar fell to a low of 122.66 against the yen the next day as dollar bears gained the upper hand.

Prior to the Fed’s decision, the yen was already strengthening after Bank of Japan (BOJ) Governor Haruhiko Kuroda said on 10 June that the currency is unlikely to weaken further in real effective terms.

While the yen’s drop has been good for Japanese corporates, it has posed increasing problems for importers and smaller companies. The weaker yen has failed to spur higher wages, greater consumer spending or even inflation.

With both the US and Japan central banks’ actions dictating dollar/yen movements, the performance of Japanese equities has been influenced by monetary policy.

Propelled by Abenomics, the Nikkei 225 Index hit a 15-year high of 20,655.33, chalking up a 12-day winning streak. Net foreign buying of Japanese equities has exceeded 2 trillion yen so far this year. Since then, the rally has stalled.

For market participants, the Singapore Exchange (SGX) offers the widest suite of Japan-related derivatives to cater to the needs of investors, including Yen Nikkei Futures, USD Nikkei Futures, Mini Nikkei Futures, Nikkei Dividend Futures, Yen Nikkei Options as well as USD/JPY and KRW/JPY FX futures.

SGX Nikkei 225 Futures Roll Spread Averages the Smallest Discount Since 2013

The average price of the spread between the June 2015 and September 2015 SGX Nikkei 225 Futures contract months in the recent roll period completed last week was -1.3 points. This indicates a slight discount to hold a long position in the forward contract compared to the expiring one. This was the smallest roll spread discount for the last six rolls. Since the December 2013 to March 2014 roll premium of 6.3 points, the quarterly rolls of the SGX Nikkei 225 Futures have rolled at a discount. The table below shows the average quarterly rolling prices of the SGX Nikkei 225 Futures since 2010.

 

SGX Nikkei 225 Calendar Spread Futures Average Price

Quarterly Roll

2010

2011

2012

2013

2014

2015

Mar – Jun

-60.2

-72.5

-74.0

-66.3

-79.2

-84.3

Jun – Sep

-4.7

-5.0

-9.5

0.7

-7.8

-1.3

Sep – Dec

-55.2

-60.3

-66.7

-59.8

-77.7

-

Dec –  Mar

-8.5

-10.2

-11.5

6.3

-5.3

-

Source: Bloomberg

Roll spread pricing (the difference in pricing between the expiring contract and the forward contract) is affected by expectations on dividend, interest rate changes and index price movement for the next quarter. Dividend seasonality typically affects the March to June and September to December rolls, resulting in roll discounts for these quarters. 

Uncertainty on the magnitude and timing of US interest rate hikes may have contributed to the roll discount, as a rise in US interest rates will have knock-on effects on exchange and interest rates. As such, the market may have priced in a risk-off scenario, which shaped the negative roll spread. On the flip side, positive earnings outlooks for Japanese companies and the weakening yen could have provided support for the roll spread, shaping the smallest roll spread discount for the last six rolls since end-2013.

Last week’s roll saw robust activity, with the SGX Nikkei 225 Futures chalking up US\\$24 billion in outstanding positions after the completion of the roll on 12 June 2015. As shown in the recent roll, SGX retains a high share of open interest and volume, reflecting the confidence that customers continue to have in the SGX Nikkei 225 Futures market, which has operated for close to 30 years.  

For more information on SGX Nikkei 225 Futures, please click here.

Foreigners Continue Buying; Locals Stays on Sidelines

Retail investors in Japan have turned cautious, staying on the sidelines even on dips, reported the Nikkei Asian Review. A close look at one exchange-traded fund hints at fear amidst a bull market.

The Next Funds Nikkei 225 Leveraged Index Exchange Traded Fund is one of the most actively traded ETFs on the Tokyo Exchange. The number of Nikkei 225 Leveraged Index ETF shares held by investors rose during the May rally, but shrank after the Nikkei 225 broke 20,000, as retail investors took profit instead of bargain-hunting.

Elsewhere, the Japan Investment Advisers Association’s data revealed that Japanese asset management firms are raking in more money from overseas investors, such as sovereign wealth funds and pension funds. Total assets under management and advice swelled to 232 trillion yen in March.

However, buying of Japanese stocks by domestic public and private funds increased at a slower pace than foreign purchases.

Table: Total assets under management and advice by investment management members (100 million yen)

Indices Total (Domestic and Foreign AUM) Increase/Decrease of Total AUM (YoY %) Public Domestic Fund AUM Private Domestic Fund AUM
41334 1836948 17.4 670,079.0 272,044.0
41699 1977351 7.6 783,901.0 286,005.0
42064 2321596 17.4 877,976.0 306,017.0

Source: Japan Investment Advisers Association

Stocks popular among retail investors, such as Takeda Pharmaceutical and ANA Holdings, also saw their proportion of shares held by retail investors drop across the board at the end of March.

It is interesting to note that while much of the rally in China is retail-driven, the situation in Japan is different with domestic investors turning cautious.

Another point to note is that the yen’s depreciation is beginning to stall. Despite hitting a fresh high recently, the yen has largely remained range-bound against the US dollar since December. The Nikkei 225 Index, on the other hand, is clearly on an uptrend, threatening to break the historical correlation between the currency and the index.

The Road Ahead for the Yen

Shipments from Japan rose a modest 2.4% year-on-year for a ninth consecutive month in May, the weakest since August. If measured in US dollar terms, exports will have fallen 12.9%.

As seen from the chart below, exports from Japan actually declined month-on-month since March. At the same time, the yen has stabilised or even dipped against the US dollar in certain periods. This suggests the strategy of a weak yen could have run its course, which could explain why the BOJ is not seeking further depreciation.

Source: Bloomberg

However, even if the BOJ refrains from further easing, monetary policy divergences attributed to looming rate hikes by the Federal Reserve may likely sustain an appreciation of the dollar in the longer term. 

An interesting development is that while the Fed is moving towards higher interest rates, South Korea is inching towards devaluing the won. The Bank of Korea slashed its key interest rate a quarter percentage point to 1.5% as "there are concerns following the MERS outbreak about contractions in domestic demand activities such as consumption and in economic sentiment." 

Even as both the won and yen are on a downward path, the pace of depreciation between the two currencies will differ. While the rolling correlation between yen/US dollar and yen/won has traditionally been observed to be range-bound between 80%-90% prior the start of Abenomics, the chart below suggests that correlation is starting to revert to historical norms and may open up trading opportunities for market participants.