Japanification: investors fear malaise is spreading globally
Rise in negative-yielding debt accelerates over summer
Robin Wigglesworth
© AP
Fears over recession are once again stalking markets, but many investors and analysts are more worried about a deeper, more structural shift: that the world economy is succumbing to a phenomenon dubbed “Japanification”.
Japanification, or Japanisation, is the term economists use to describe the country’s nearly 30-year battle against deflation and anaemic growth, characterised by extraordinary but ineffective monetary stimulus propelling bond yields lower even as debt burdens balloon.
Analysts have long been concerned that Europe is succumbing to a similar malaise, but were hopeful that the US — with its better demographics, more dynamic economy and stronger post-crisis recovery — would avoid that fate.
But with US inflation stubbornly low, the tax-cut stimulus fading and the Federal Reserve now having cut interest rates for the first time since the financial crisis, even America is starting to look a little Japanese. Throw in the debilitating effect of ongoing trade tensions and some fear that Japanification could go global.
“You can get addicted to low or negative rates,” said Lisa Shalett, chief investment officer of Morgan Stanley Wealth Management in New York. “It’s very scary. Japan still hasn’t gotten away from it . . . The world is in a very precarious spot.”
The primary symptom of spreading Japanification: the rise of negative-yielding debt, which has accelerated over the summer. There is now more than $16tn worth of bonds trading with sub-zero yields, or more than 30 per cent of the global total.
Japan is the biggest contributor to that pool, accounting for nearly half the total, according to Deutsche Bank. But the entire German and Dutch government bond markets now have negative yields. Even Ireland, Portugal and Spain — which just a few years ago were battling rising borrowing costs triggered by fears they might fall out of the eurozone — have seen big parts of their bond markets submerged below zero.
As a result, the US bond market is no longer the best house in a bad neighbourhood: it is pretty much the only house still standing. US debt accounts for 95 per cent of the world’s available investment-grade yield, according to Bank of America.
The US economy continues to expand at a decent pace, with strong consumption offsetting a weaker manufacturing sector. Even inflation has ticked up a little. But some economists fret that a manufacturing contraction will inevitably affect spending, so forecasts have been slashed for this year and next. Some even fear a recession may be looming.
“Black-hole monetary economics — interest rates stuck at zero with no real prospect of escape — is now the confident market expectation in Europe and Japan, with essentially zero or negative yields over a generation,” Larry Summers, the former Treasury secretary, noted last weekend. “The United States is only one recession away from joining them.”
He added: “Call it the black-hole problem, secular stagnation, or Japanification, this set of issues should be what central banks are worrying about.”
The global economy’s darkening outlook was certainly a major topic at last week’s annual central bankers’ jamboree at Jackson Hole. There, mounting trade tensions and the harsh reality of the limited powers of monetary policy to boost growth cast a pall over discussions.
“Something is going on, and that’s causing . . . a total rethink of central banking and all our cherished notions about what we think we’re doing,” James Bullard, president of the St Louis Federal Reserve, told the Financial Times. “We just have to stop thinking that next year things are going to be normal.”
Most analysts and investors remain optimistic that a US recession can be averted, given that the Fed has shown its willingness to cut interest rates to support growth. Instead, a scenario something akin to Japan’s looks more likely, judging from still-elevated stock prices and interest rate futures. While this might appear more benign than a full-blown downturn, the implications are far from positive.
For one, it might mean that bond yields are going to stay lower for much longer. This might be good news for borrowers, but as Japan showed, persistently low rates do not necessarily invigorate economic growth.
And for long-term investors, such as pension funds and insurers that depend on a certain return from fixed-income instruments, low rates can present a lot of difficulties.
It is particularly problematic for “defined benefit” pension schemes, for example, which calculate the value of their long-term liabilities using high-grade average bond yields. When yields fall, pension providers’ expected returns dim, their funding status deteriorates and they have to set aside more money.
The pension deficit of companies in the S&P 1500 index rose by $14bn in July to $322bn largely because of falling bond yields, according to Mercer. In the UK it rose £2bn to £51bn for FTSE 350 companies. And that was even before August’s big tumbles in bond yields.
Nor is the prospect of Japanification an appetising one for investments outside the bond market, notes John Normand, a senior strategist at JPMorgan.
“The prospect of broader, sustainable Japanisation when growth, inflation and bond yields are already depressed shouldn't comfort anyone,” he said. “When Japanisation is shorthand for an anaemic business cycle, credit and equity investors should question the earnings outlook, recalling that Japanese equities underperformed bonds for most of the country's ‘lost decade’.”
This research post continues our effort to keep investors aware of the risks and shifting capital opportunities that are currently taking place in the global markets. We started in PART I of this article by attempting to highlight how shifting currency valuations have played a very big role in precious metals pricing and how these currency shifts may ultimately result in various risk factors going forward with regards to market volatility.
Simply put, currency pricing pressures are likely to isolate many foreign markets from investment activities as consumers, institutions and central governments may need more capital to support localized economies and policies while precious metals continue to get more and more expensive.
One of the primary reasons for this shift in the markets is the strength of the US Dollar and the US Stock Market (as well as the strength in other mature economies). The capital shift that began to take place in 2013-2014 was a shift away from risk and towards safer, more mature economic sources.
This shift continues today – in an even more heightened environment. The volatility we are seeing in the US and foreign markets is related to this shift taking place as well as the currency valuation changes that continue to rattle the global markets.
US Dollar Index Weekly Chart
It is our opinion that, at some point, the support levels in foreign markets may collapse while the US and major mature global economies become safe-havens for assets.
When this happens, we’ll see the US Dollar rally even further which will push many foreign currencies into further despair.
The overall strength of the US Dollar is being supported by this continued capital shift and the way that global assets are seeking safety and security.
The same thing is happening in precious metals.
We believe the current setup in the US markets is indicative of a breakout/breakdown FLAG/Pennant formation. We believe this current setup should prompt a very volatile price swing in the markets over the next 3 to 6+ months which may become the start of a broader event playing out in the foreign markets. How this relates to precious metals is simply – more fear, more greed, more uncertainty equals a very strong rally in precious metals over the next 12+ months.
Dow Jones Index Chart
This Dow Jones chart highlights what we believe is a very strong Resistance Channel that needs to be broken if the US stock market is going to attempt to push higher in the future. You can also see the BLUE lines we’ve drawn on this chart that sets up the FLAG/Pennant formation.
Although price broke through the lows of the FLAG/Pennant formation, we still consider it valid because it confirms on other US major indexes. Should the Dow Jones fail to move above the previous price high, near early July 2019, then we believe the Resistance Channel will reject price near current levels and force it lower (filling a recent gap and targeting the $25,500 level or lower).
Custom Volatility Index Chart
Our Custom Volatility Index chart shows a similar type of setup. Price weakness is evident near the upper channel level of this chart. This chart is very helpful for our research team because it puts price peaks and troughs into perspective within a “channeling-type” of rotating range. You can see that previous major price peaks have always settled above 16 or 17 on this chart.
And previous major price bottoms have always settled below 7 or 8 on this chart. The current price volatility level is just above 13 – just entering the weakness zone in an uptrend. If price were to fail near this level, a move toward 8 would not be out of the question. We just have to watch and see how price reacts over the next few weeks to determine if these weakness channels will push price lower.
Gold Monthly Chart
If our research is correct, the entire move higher in precious metals, originating near the bottom in December 2015, is a complex wave formation setting up a WAVE 1 upside move.
This complex wave formation is likely to consist of a total of 5 price waves (as you can see from the chart below) and will likely end with Gold trading well above the $2000 price level near or before June 2020.
If this analysis is correct, we are about to enter a very big, volatile and potentially violent price move in the global markets that could rip your face off if you are not prepared.
CONCLUDING THOUGHTS
This BEAST of a market is about to explode as we’ve highlighted by this research and these charts.
It may start ripping our faces off in less than 30 days or it could take longer. One thing is for sure, the global markets are set up for something big and precious metals are beating our foreheads saying “hey, look over here!! This is where risk is trailing into as the markets continue to set up for this volatile price move!!”.
Simply put, currency pricing pressures are likely to isolate many foreign markets from investment activities as consumers, institutions and central governments may need more capital to support localized economies and policies while precious metals continue to get more and more expensive.
One of the primary reasons for this shift in the markets is the strength of the US Dollar and the US Stock Market (as well as the strength in other mature economies). The capital shift that began to take place in 2013-2014 was a shift away from risk and towards safer, more mature economic sources.
This shift continues today – in an even more heightened environment. The volatility we are seeing in the US and foreign markets is related to this shift taking place as well as the currency valuation changes that continue to rattle the global markets.
US Dollar Index Weekly Chart
It is our opinion that, at some point, the support levels in foreign markets may collapse while the US and major mature global economies become safe-havens for assets.
When this happens, we’ll see the US Dollar rally even further which will push many foreign currencies into further despair.
The overall strength of the US Dollar is being supported by this continued capital shift and the way that global assets are seeking safety and security.
The same thing is happening in precious metals.
We believe the current setup in the US markets is indicative of a breakout/breakdown FLAG/Pennant formation. We believe this current setup should prompt a very volatile price swing in the markets over the next 3 to 6+ months which may become the start of a broader event playing out in the foreign markets. How this relates to precious metals is simply – more fear, more greed, more uncertainty equals a very strong rally in precious metals over the next 12+ months.
Dow Jones Index Chart
This Dow Jones chart highlights what we believe is a very strong Resistance Channel that needs to be broken if the US stock market is going to attempt to push higher in the future. You can also see the BLUE lines we’ve drawn on this chart that sets up the FLAG/Pennant formation.
Although price broke through the lows of the FLAG/Pennant formation, we still consider it valid because it confirms on other US major indexes. Should the Dow Jones fail to move above the previous price high, near early July 2019, then we believe the Resistance Channel will reject price near current levels and force it lower (filling a recent gap and targeting the $25,500 level or lower).
Custom Volatility Index Chart
Our Custom Volatility Index chart shows a similar type of setup. Price weakness is evident near the upper channel level of this chart. This chart is very helpful for our research team because it puts price peaks and troughs into perspective within a “channeling-type” of rotating range. You can see that previous major price peaks have always settled above 16 or 17 on this chart.
And previous major price bottoms have always settled below 7 or 8 on this chart. The current price volatility level is just above 13 – just entering the weakness zone in an uptrend. If price were to fail near this level, a move toward 8 would not be out of the question. We just have to watch and see how price reacts over the next few weeks to determine if these weakness channels will push price lower.
Gold Monthly Chart
If our research is correct, the entire move higher in precious metals, originating near the bottom in December 2015, is a complex wave formation setting up a WAVE 1 upside move.
This complex wave formation is likely to consist of a total of 5 price waves (as you can see from the chart below) and will likely end with Gold trading well above the $2000 price level near or before June 2020.
If this analysis is correct, we are about to enter a very big, volatile and potentially violent price move in the global markets that could rip your face off if you are not prepared.
CONCLUDING THOUGHTS
This BEAST of a market is about to explode as we’ve highlighted by this research and these charts.
It may start ripping our faces off in less than 30 days or it could take longer. One thing is for sure, the global markets are set up for something big and precious metals are beating our foreheads saying “hey, look over here!! This is where risk is trailing into as the markets continue to set up for this volatile price move!!”.
