Chapter 143: Two Markets

Abenomics is the economic policy pursued by Shinzo Abe after he became Prime Minister of Japan to revive the Japanese economy, which had fallen into a prolonged recession.

Strong monetary easing, large-scale fiscal spending.

This policy, which focuses on structural reform, is called the ‘Three Arrows’ and aims for a powerful stimulus effect.

In particular, the first arrow, the monetary easing policy, is centered on quantitative easing (QE), in which the Bank of Japan (BOJ) purchases large amounts of government bonds and financial assets to supply huge amounts of money to the market.

This will cause the value of the yen to plummet and temporarily strengthen the competitiveness of export companies.

However, there were considerable side effects.

The rapid increase in the money supply created inflationary pressure, which maximized volatility in the government bond market.

This means that concerns about long-term government bond yields are spreading rapidly.

Inevitably, the instability of the Japanese financial market will be highlighted on the other side of the short-term boom that Abenomics will bring.

And this is the timing for me to invest.

…

Perhaps because of my attendance.

The atmosphere in the conference room was very serious.

With everyone focused, I explained the details of the strategy, going over the data one by one.

“The Japanese government will have to issue a lot more government bonds, and the Bank of Japan will have to conduct massive quantitative easing in the process of buying them.”

Lisa took the words right out of my mouth.

“If that happens, stock prices will rise in the short term, and the yen will have to fall sharply.”

“But if you keep pouring money in like that, there’s a good chance that confidence in the government bond market will hit rock bottom.”

I agreed with Grant’s words.

“If the market has doubts about the sustainability of Japanese government bonds, government bond yields will naturally soar.”

“That’s the timing we’re aiming for.”

“Right. How should we invest to maximize profits?”

I asked Grant and Lisa.

Unexpectedly, the answer came from Seong-hwan.

“If interest rates rise due to the decline in the credibility of Japanese government bonds, shouldn’t we take a short position?”

“Oh, not bad?”

Even a dumb dog can recite the classics after three years.

Seong-hwan, who knew nothing, now seems to be able to read the board.

“If long-term bond yields rise by just 1%, we can make over a billion dollars in profit.”

Grant, who checked the data in the document, continued.

“In addition to bonds, if we conduct foreign exchange option transactions in the direction of the yen exchange rate rising, we can aim for even greater profits.”

“The USD/JPY exchange rate is currently at 90 yen. If it reaches 100 yen, it will be possible to make more profit than bond investment.”

By maximizing leverage through option trading, it was possible to make profits in the double digits at the very least, and as much as triple digits.

“When I listen to what’s being said here, I get the illusion that making money is too easy.”

Seong-hwan looked a little disillusioned as he looked at me.

“What do you mean?”

“…It’s nothing. At Dojin Tech, you have to work hard to make and supply lenses and camera modules, but here you can make money with just a few clicks.”

I know what you mean.

But there was something he was mistaken about.

“Do you know that with just one click, you can lose tens of billions of dollars?”

I patted Seong-hwan on the shoulder and continued.

“What we’re talking about now is a plan based on the premise that the Japanese government bond market will collapse. But what if that prediction is wrong? What if the Bank of Japan expands its government bond purchases and interest rates fall like they did during the U.S. quantitative easing?”

When Seong-hwan heard my words, he realized that this time, despite the same quantitative easing situation, they were betting on bond yields rising.

“Oh, unlike the U.S., Japan will be seen as risky by investors as it prints money due to its fiscal deficit.”

“But… what if our prediction is wrong?”

“Instead of making tens of billions of dollars, you could lose all the money you’ve made so far.”

Lisa continued.

“So we need to approach this strategy carefully. Currently, the average interest rate on government bonds issued by the Bank of Japan is 0.7%. If this rises to just 1%, we will make a huge profit, but if it falls to 0.5%, we will suffer a huge loss.”

“It’s easy to make money, but also easy to lose. Then I take back what I said earlier!”

At Seong-hwan’s words, Grant, Lisa, and I burst out laughing.

Then Lisa turned her attention to the plan that had been neatly organized.

[Investment Strategy - Abenomics]

Short position on Japanese government bonds

Sell 10-year and 20-year government bond futures
Target interest rate: 1% increase
Expected return: 150~200%

Bet on yen weakness

Bet on USD/JPY exchange rate rise
Current exchange rate 90 yen → Target exchange rate 100 yen
Sell yen put options and futures
Expected return: 180~250%

Long/short strategy in the Japanese stock market

Short position on Japanese domestic companies
Long position on export companies (electronics, automobiles)
A long position in automobile and electronic parts companies is a strategy that bets on increased export competitiveness through yen weakness
Expected return: 80~150%

Bet on widening CDS spreads

Buy Japanese government bond CDS spreads
If the credit risk of Japanese government bonds increases, additional profits are possible due to rising CDS premiums
Expected return: 100~300%

“These four will be the core of our investment in Japan.”

“How will we allocate funds for each position?”

“First, allocate 40% of the total funds to Japanese investment, with 25% to short positions on Japanese government bonds, 30% to bets on yen weakness, 20% to the stock market, and 25% to CDS.”

Lisa moved the keyboard and recorded the numbers I said in the Excel sheet without missing a beat.

Grant, who was watching the numbers, spoke up.

“You’re saying to invest $12.8 billion in the Japanese market out of a total of $32.1 billion in assets under management, including client entrusted assets?”

“Yes. The remaining 40% will be bet on the U.S. Fed’s quantitative easing halt, and the remaining 20% will be left for liquidity and position defense.”

Since a significant portion was allocated to futures and options, this was a measure to prepare for a margin call situation.

“Then, what kind of position are you planning to take in the U.S.?”

“Let’s do that after we eat!”

Seong-hwan pointed to the clock, as if it was already lunchtime.

I agreed, and we temporarily halted the meeting.

The U.S. Federal Reserve (Fed) has been supplying huge amounts of liquidity to the market through large-scale quantitative easing (QE) that began after the global financial crisis.

This means that during the 2008 financial crisis, they bought large amounts of government bonds and MBS (mortgage-backed securities) and poured dollars into the market to revive the collapsed financial market.

In the process, interest rates fell to historically low levels.

Companies continued to invest and buy back stocks with low-interest funds.

As a result, as everyone knows, the Nasdaq index, which had fallen to 1,500 points, was able to rise to the current level of 3,600.

But of course, these measures could not help but cause side effects.

The U.S. Fed detected that asset bubbles were forming as low interest rates and liquidity supply lasted too long.

Seeing that the inflation rate had risen from near 0% during the financial crisis to close to 2%, the Fed began to seriously consider an exit strategy.

If the liquidity released into the market was not recovered, there was a risk that inflation would soar out of control.

On the contrary, if it was recovered too quickly, there was a possibility that the market would plummet again.

Accordingly, the Fed began preparations to announce a gradual reduction in quantitative easing (QE Tapering).

The plan was to gradually reduce the amount of liquidity supplied to the market, while deciding on the timing of interest rate hikes based on future economic conditions.

‘But even this signal alone will make the market extremely anxious.’

The more I sat and thought about it,

I felt that investors were more likely to interpret the Fed’s quantitative easing reduction as an interest rate hike.

The data Lisa brought up also contained something similar to what I expected.

“Currently, the interest rate on government bonds issued by the Fed is 1.5%, but if the QE halt is formalized, there is a very high possibility that interest rates will quickly exceed 3%.”

Lisa pointed to each piece of data and continued her explanation.

“The fact that interest rates, which were previously below 1%, have risen to 1.5% means that the market is also anticipating the Fed’s exit strategy to some extent.”

“The moment the Fed announces quantitative easing, that anticipation will become certainty.”

“The problem is when the market will announce quantitative easing.”

“I predict that the announcement will definitely come within a month.”

So we had to finish entering our positions before then.

If the Fed directly mentions a halt to quantitative easing, the market will be gripped by uncontrollable fear.

Entering a position at that time would be too much of a stretch.

“Then, how about entering the position like this?”

Even though it was organized in a short time after lunch,

The data Lisa showed was easy to understand.

[Investment Strategy - Quantitative Easing Halt]

Bet on rising government bond yields (short position)

Sell 10-year government bond futures
Current interest rate 1.5% → Target interest rate 3.0%
Expected return: 150~200%

“The moment the Fed mentions a halt to quantitative easing, government bond yields will soar first.”

If the yield on 10-year U.S. Treasury bonds rises by just 0.5%, hundreds of billions of dollars will evaporate from the bond market’s market capitalization.

Grant added an explanation.

“As bond yields rise, large amounts of funds will flow out of the stock market and into the bond market.”

In that process, it was only natural that the stock market would come under downward pressure.

The second investment strategy that Lisa wrote down was about that.

Short position on S&P500 index futures

Current index: 1,680 → Target 1,430
Expected return: 80~120%

“A decline in financial and technology stocks, which are sensitive to interest rates, is expected.”

That was Grant’s opinion, and I agreed.

“More than half of the companies listed on the S&P500 have supported their stock prices through share buybacks, so they will inevitably be hit first.”

“Next is real estate-related content.”

Short position on the real estate market

Short MBS (mortgage-backed securities) and housing-related REITs (Real Estate Investment Trusts)
Expected return 70~110%

As interest rates rise, the burden of mortgage loans increases, and in the process, it is only natural that housing prices fall.

After reviewing all the data prepared by Lisa,

I spoke to everyone in the conference room.

“This investment will diversify our positions between Japan and the U.S., and through this, we will be able to make another huge profit.”

Grant replied with a pleasant expression.

“If both markets move exactly as we predict…”

“Then DJ Capital will once again experience significant growth.”