Is Haruhiko Kuroda Japan’s central bank head or the nation’s premier hedge-fund manager? He’s both, when you consider the Bank of Japan’s unprecedented hoarding of stocks via exchange-traded funds.
Since Kuroda arrived at the Bank of Japan headquarters in March 2013, the institution has cornered the government bond market.
New data show the central bank held a mind-boggling $180 billion-plus worth of equity ETFs at end of September, an increase equivalent to the annual gross domestic product of Bolivia in just six months.
That buying helped drive the Nikkei Stock Average to 26-year highs, but it also leaves Japan’s monetary authority monumentally exposed. The BOJ’s stock bet, the Nikkei reports, is 2.5 times its capital. It’s on track to top the three-times-bigger mark by the end of March.
As that portfolio balloons, it’s time to start worrying about massive paper losses if equities reverse course.
Prime Minister Shinzo Abe’s five-year-old revival scheme for the economy isn’t boosting wages, which adjusted for inflation, fell 0.1% in September.
Inflation, meanwhile, is nowhere near the BOJ’s 2% target. Once that lack of progress dawns on punters, the Nikkei’s 18% rally this year could run out of road. Threats abound from Washington, too, should President Donald Trump launch the Asian trade war he’s been promising.
Kuroda could try to contain the damage, of course. He controls one of the world’s three most powerful ATM machines. The BOJ could always step up purchases, China-style, to slow losses.
But that would just leave the Kuroda Partners LP hedge fund with even greater exposure. It means an eventual exit from ultraloose monetary policies may be pushed additional years into the future.
But China had to throw the full force of its institutional structure at the Shanghai stock market in 2015, and barely succeeded. And the BOJ has another problem, one that relates to its status as a first-world monetary power.
Should the bank’s ETF portfolio fall below book value, Kuroda’s team would have to set aside reserves to cover the mismatch. Investors getting wind of that could accelerate losses.
Kuroda’s team has been gorging on equity instruments at, or close to, the very top tick. The benchmark index has set a series of record highs and is currently just above 22,500.
As Nikkei reports, paper losses would become a problem for the BOJ should the market return to the 16,000 range. That’s hardly a stretch should another global financial crisis – or a Trump trade war – hit.
A circular logic could take hold here, too, once the BOJ mulls ways to reverse the Kuroda stimulus. Might it dissuade policymakers from restoring monetary normalcy?
At the October policy meeting, at least one board member urged a review of the pros and cons of the BOJ pushing further into stocks. Initial concerns about price distortions, the nationalization of the market, will soon give way to the market losing its “whale.”
That’s the thing about Kuroda Partners LP pushing itself deeper into bonds, stocks and any asset that might in theory reflate the economy – it gets trapped.
By some measures, the BOJ is scaling back a bit on new buying. But it has redefined the concept of investment whales, both in terms of side effects and conflicts of interest between the private and public sectors. The sheer scale of Kuroda’s holdings, though, also bumps up against the difficulty in reviving consumer confidence.
Earlier this month, Kuroda said that “although there remain issues to be resolved to achieve the price stability target of 2%, the environment surrounding prices in Japan has improved steadily compared to five years ago.”
Even so, he added, “it is not easy to quickly dispel the deflationary mindset that has formed over the course of 15 years of deflation.”
Even if the BOJ manages to revive inflation – still a big “if” – it must figure out how to withdraw from stocks and bonds without crashing the economy.
It’s obvious that Kuroda Partners LP is too big to fail. If it keeps doubling down on stocks, though, its portfolio could end up being too big to save.