Apr 11, 2022Liked by Russell Clark

Excellent ideas Russell.

Don't you think the BOJ will ultimately have to respond to FED rate hikes?

Or will they let the Yen tank further?

PS: Your substack is in my opening google page here, don't a day goes by without me checking it out

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Thanks for the highlight Russell. Completely correct hypothesis. What I will disagree with is the BOJ taking cues from the Fed. It's the other way around. And this is a very fine nuance that somebody of your standing will appreciate. BOJ due to the crash in the 80's has just been filling its own balance sheet holes and is the leading proponent of MMT. We are 10yrs in front of you from a demographic perspective. An easy read will be indirect take downs of your UST 3yr auction tonight, those indirects if strong will be led by Japanese pensions as they struggle to meet corporate pension rate commitments (Nissay just announced it cannot meet those commitments and can only guarantee 0.5% returns instead of 1.25%), a huge nut kick. Desperate for yield, we'll take what you can provide, it's when CPI reaches 2%+ and we no longer need outside yield and can offload internally that you and the world are, as they say, fucked.

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This is THE story. It feels like there are only two possible outcomes: Sovereign debt crisis or inflation and potential currency collapse. I hope more follow ups are coming either confirming my bias or smashing my narrative.

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Is BOJ doing the right thing ? $yen broke 130, and do they underestimate the inflationary pressure, although I cannot link inflation with japan in my mind... at all

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Hi Russell your point about why it made no sense for the Japanese to buy gold makes sense.Would you go further and say they may have been capping Gold(for the same reasons)?Also have the Japanese stepped up there buying in gold recently.Looking at the chart it looks that way?BTW I love reading/listening to your material.A truly innovative thinker!

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The food price spike is really only beginning and it takes some time to go through supply/production/retail chains to the end consumer and even more time for the central bank to potentially react...

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Russell, does it boil down to gradually selling out of U.S. assets and buying (currency unhedged) Japanese stock ETFs when an upward Japanese CPI trend is underway?

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thought-provoking! Thanks.

My subsequent thought and question: if the thesis is Japanese funding access (ie money markets) is a significant factor for general markets (financial and real economy, if you will) could you expand on this thesis by which it is funding access for creditor states that is in fact the significant factor? US economy relies foreign capital, USD is dominant base money, thus ability of foreign lenders to support US economy knocks-on to USD funding health.

What do you think? Thank you again.


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Excuse no charts. But, this is what causes Japanese corporates to, as you put it, bring money hone:

On the face of it yes, but as ever it just aint that simple. Especially with Local Mrs Watanabe's getting long Yen to the tune of ~$2.2b according to Berg this morning, and going against COT short data.

Sent this out a few times, but Japanese corporates are massive Hedges when they have to be, especially into on out the back of FY earnings that are just around the corner with Currency volatility picking up and swaps getting expensive.

FX options deals are executed by large Japanese exporters with mainly Japanese banks. If Retail are looking for a bounce, can bet your dollar that Corporates are too. So this is the kind of transaction they'll do to capture that. Purely hypothetical at this stage. Japanese exporter with US receivables will enter into something like a reverse knock-in forward transaction.

The Background

Say your a Japanese exporter, with annual turnover of ~$500m (most of it in USD and Euro exports) and are looking to not get caught off guard by potential strength in the JPY in the first half of FY23

Policy is usually to not hedge FX risk as it relates to US receivables. This policy has been effective as the JPY depreciated significantly versus the US dollar form early last year so far. The only hedges they'd do is to to buy short term Dollar-yen forward contracts and roll them over. However, given this strong move lower for Yen, locally going to be looking for a bounce, especially as most corporates use ~110yen for earnings calc's. Look at the state of short term Forwards here.

3M Basis Swaps

If you're the treasurer of a Japanese corporate now you'd approach a Domestic Japanese bank for an effective hedging solution seeing the amount of 2yen spikes we've had the last 6months, and strength likely capped now at 118.

The Problem

spot USD-JPY looking like it'll trade at 123 and you as the company are looking to protect a worst case rate of 120 and allow for participation in USD strength. Worst case scenario of 10yen over earnings calculations aint a bad place to be tbf is it.

And to take advantage of both high-implied volatility in the USD/JPY option market and reasonably generous forward premium.

6month ATM USD/JPY Implied Volatility

The Solution

Lets say the company would hedge its USD receivable stream for the remainder of fiscal year and the NTM.

by (going long) a series of 12 monthly USD puts/JPY calls at strikes of 125 providing protection on 75% of their US dollar receivables;

To finance the premium otherwise payable on the JPY calls, the company would short USD calls/JPY puts at a strike of 125 with a reverse knock-in at 150 on 100% of their USD receivables.

Option maturity for both the vanilla calls and the reverse knock-in puts would be one year. Lets say the notional amount is ~$100bux

The USD calls/JPY puts owned by the bank would only become viable if Dollar-Yen trades at 150 during the hedge period and trigger a knock-in at 150 which is a ~40yr high but not looking out of the realms of probability right now:

USDJPY Max Chart

At each monthly expiry of the vanilla USD put/JPY call, with USD/JPY spot above the 125 strike, and assuming that the 150 trigger (Knock-in barrier) has not traded, the company will be selling its US dollars at spot

If at any expiry, spot is lower than 125 - say 122 - then the company would exercise its USD put/JPY call option at 125 and would effectively sell their USD there.


Badness in the above product is that if JPY does, for whatever reason, weakens sharply to the 150 barrier level, then the knock-in (or the reverse knock-in) JPY puts will come alive at a huge intrinsic value for the bank (buyer of the reverse knock-ins). Then all the bank's remaining USD calls/JPY puts would become viable and the company would be required to sell US dollars at 125 at a great intrinsic value (huge loss for the company)

With divergences like the one in the graph above, every man and his dog talking inflation/stagflation and with US Swaption volatility spiking again, and BOJ stating they'll buy all and any JGB's at 0.25 it'll pay to be aware of how Corporate Japan Hedge their FX risk. Said last Quarter that this would become handy for this Quarter and year end.

Real UST/JGB Yield differntials vs. USDJPY Weekly

So right now, if Corporates aint hedging as they haven't been and Yen strengthens, with volatility they miss out, and to even put the hedges on is getting awful expensive, so it's not just as simple as saying yen weakness is good for Japanese exporters.

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