(Bloomberg) — Arif Husain says he was early to sound the alarm last year about rising interest rates in Japan, which he described as the “San Andreas debt of the financial world.”
Most read from Bloomberg
The head of fixed income at T. Rowe Price warned that investors have “only seen the first shift in that fault line, and more” market volatility is on the way after July’s rate hike triggered a violent reversal in the yen carry trade.
While a hawkish Bank of Japan and jitters over slowing U.S. growth helped fuel voracious demand for the yen on Aug. 5, investors may be ignoring a deeper source of the global meltdown that has spread across stocks, currencies and bonds, Husain wrote in a report. That includes a mountain of Japanese money invested offshore that is at risk of being shipped back home as tariffs in the world’s fourth-largest economy continue to rise.
“The yen carry trade scapegoat ignores the beginnings of a larger and deeper trend,” said Husain, whose firm manages about $1.57 trillion in assets. “The BOJ’s monetary tightening and its impact on global capital flows is far from straightforward and will have a major impact in the years ahead.”
The sudden abandonment of the yen carry trade, in which the Japanese currency is sold to invest in higher-yielding assets, helped send the Nikkei 225 stock average down the most since 1987 and sent the VIX index of stock market volatility soaring. Economists briefly predicted the Federal Reserve would have to intervene by half a point or trade between meetings — the kind of move normally reserved for a crisis.
While the yen has settled into a mid-140 trading range against the dollar, volatility remains high. Expected Fed rate cuts and further BOJ tightening could shake markets again sooner rather than later.
Husain, who has nearly three decades of investing experience, favors an overweight allocation to Japanese government bonds, as he believes capital is likely to flow back into the country as yields rise. He also favors an underweight position in U.S. Treasuries, securities that he believes could come under pressure as Japanese institutions relocate from the U.S. to their home country.
Yields on 10-year Japanese government bonds rose one basis point to 0.915% on Tuesday, the highest level since Aug. 6.
“At some point, higher Japanese yields could attract the country’s large life insurance and pension investors to shift back into JGBs from other high-quality government bonds,” Husain wrote. “In effect, this would realign demand in the global market.”
Most read from Bloomberg Businessweek
©2024 Bloomberg LP
