Japanese giant has the power to sink the yen

The yen’s fresh attempt to break lower comes as a result of Japanese policymakers’ success in escaping criticism at last week’s G20 meeting of central bankers and finance ministers over their efforts to reflate their country’s economy and weaken their currency.

The massive expansion of the Bank of Japan’s balance sheet announced earlier this month has weighed heavily on the yen, raising expectations that Japanese investors will send funds abroad in search of yield.

Mansoor Mohi-uddin, head of FX strategy at UBS, believes USDJPY is set to breach ¥100 in the near term and trade up to ¥110 by the end of the year as this shift develops.

So far, he says, retail clients have been active sellers of the yen, but corporates and institutional clients have been slow to react to the slide in the currency that has seen it drop by more than 20% against the dollar during the past six months.

As a result, Japanese importers are now buying USDJPY and other yen crosses on dips – demand that Mohi-uddin expects will continue.

Furthermore, he says while Japanese life insurance companies remain conservative and seem unlikely to increase their foreign asset holdings or lower their hedge ratios quickly, given the cost of hedging remains low, the start of the new financial year has resulted in asset managers putting more funds to work abroad.

Particular focus has shifted towards Japan’s Government Pension Investment Fund (GPIF), the giant asset manager that has ¥111.9 trillion ($1.19 trillion) under its control. Although not a sovereign wealth fund, the size of GPIF’s holdings exceed those of sovereign wealth funds globally.

At the moment, GPIF has around 60% of its assets in Japanese government and state FILP bonds, with less than 13% in Japanese stocks and about 23% in foreign assets.

Mohi-uddin believes those allocations are going to shift as the GPIF, which reports to Japan’s ministry of health, labour and welfare, backs the government’s stimulus plans.

“Given its prominence, we expect it is likely to support the government’s macroeconomic objectives by shifting more of its funds towards domestic equities and foreign assets,” he says.

“Such an announcement by the GPIF would induce the rest of Japan’s asset management and pension fund industry to follow suit.”

That might well be enough for USDJPY to finally break up through ¥100 and settle into a new trading range.