Last November, my friend, colleague and trader extraordinaire Tom Essaye of The 7:00’s Report alerted me to what has been one of the best trades in modern memory—the long Japan reflation trade.
This trade was based on the premise that newly elected Prime Minister Shinzo Abe was about to implement an economic policy designed to aggressively devalue the yen, and thereby break the decade-plus grip of deflation in the Asian nation. The Abe move was viewed as not only yen bearish, but also Japan-equity bullish, and the results didn’t disappoint.
From its November 2012 pre-election low through its May 21, 2013 high, the value of the Wisdom Tree Japan Hedged Equity Fund (DXJ) surged more than 70%. This ETF holds some of the largest Japanese companies, including auto stalwarts Honda (HMC) and Toyota (TM). The fund also is actively managed, and designed specifically to hedge out any potentially negative effects of a debased yen. What this means is you can participate in the upside in Japanese stocks without the threat of a declining yen cutting into corporate profits, and your returns.
Now, it’s no coincidence that the shares began to tumble in late May, as that is when the world first heard the term “tapering” from Ben Bernanke. The threat of a pullback of the Fed’s easy money policies spooked global markets, including Japan, and as such we saw a pullback in DXJ that now has the fund trading about 10% below its 52-week high.
For traders with a time horizon in the months rather than days or weeks, the pullback in DXJ off the May highs, along with the subsequent consolidation we’ve seen in the shares since June, means a great opportunity to own this bullish fundamental story at an attractive price.
The chart here of DXJ shows that base forming June through August; however, the recent action in DXJ shows the fund now has breached the 50-day moving average, a key technical trigger that could push buyers back into this winning trade.
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Another key circumstance that argues in favor of DXJ is that it looks like Abe is going to go forward with a proposed national sales tax increase next spring. Now, higher taxes are never good, in my opinion, but when they are accompanied by what is widely expected to be a beefed up stimulus program that will be put in place in conjunction with those higher taxes, the negative effects are largely ameliorated.
As Tom Essaye recently wrote, “In an economy where companies derive much of their revenues through exports, like they do in Japan, the benefit of the stimulus should more than offset any pullback in domestic demand, making this a net positive for most companies (and their share prices).”
I couldn’t agree more, and as such, traders looking to for strong upside over the next six months should consider a trip to Tokyo via DXJ.
At the time of publication, Jim Woods had no positions in any of the securities mentioned.