Date: 28 Nov 2017

Given the perceived importance of Japan’s major life insurance companies as investors on a global scale, the currency market often endeavours to form a view of how those lifers are strategising their approach to the currency markets. In that regard, an analyst note from Deutsche Bank’s Tokyo office might be of interest. Writing yesterday, Deutsche noted that for the first half of the 2017-18 Japanese financial year (April 1- September 30, 2017) “the hedging ratio [of the lifers’ foreign currency assets], calculated from the forward net short ratio of foreign currency assets, dropped to 56.7% (end-March: 59.3%),” Deutsche wrote, adding that “the dollar-denominated hedging ratio dipped to 48.2% (48.6%), while the euro-denominated ratio skidded to 70.8% (75.8%).”  Deutsche noted that “the net hedging position did not rise as much as the asset balance for either dollar or euro assets” adding that a decline in the hedging ratio would partly reflect “an increase in open (unhedged) foreign bond investment amid the weaker yen and an unwinding of forex hedges for open foreign bonds.”  As the German bank notes “the currency hedge ratio on dollar-denominated assets plunged through end-March following the upsurge in the USD/JPY after the US presidential election, but did not fall much in 1H FY3/18.

This is consistent with the modest scale of the rise in the USD/JPY in September.” Additionally Deutsche considers “the drop in the hedging ratio for euro-denominated assets a natural response given the upswing in the EUR/JPY from ¥115 in April to the mid ¥134 level in September” and even believes “the unwinding of this hedging contributed to the higher EUR/JPY in some cases (although it should be noted that unwinding of hedged bond positions is basically forex-neutral).” But what does that necessarily tell us about the future?. Deutsche feels that “As long as the risk-on climate continues, we expect further weakness in the yen and a sustained bias in bond risk toward a yield rise. Lifers intend under these conditions to increase their allocation to unhedged foreign bonds” but the German firm does “not believe they will buy dollar bonds aggressively at around/over ¥115 or euro bonds at over ¥130.” In short Deutsche believes lifers’ “buying on weakness in unhedged foreign bonds will support the markets but is unlikely to drive a rally.” If true that could mean lifer activity could be a hurdle for yen bull but doesn’t provide a following wind for yen bears.

Written by Neal Kimberley, External Currency Analyst.