Economies all over the world are struggling. That has been the case for a while now. But Japan’s could be about to struggle more than the rest, and its stock market may fall.
I’m talking about the rising value of the yen, which is a familiar problem for Japan. Traders looking for a way to play the situation can take this very cheap, bearish play on the iShares MSCI Japan ETF (NYSEARCA:EWJ).
Japan’s Potential Deflation Problem
The issue here is partially related to deflation.
Deflation occurs when prices for goods and services drop due to a lack of demand. This is a potential problem because when prices start to fall, deflation can become sort of a self-fulfilling prophecy.
For example, if people notice that prices are declining for a good that they want to purchase, they are incentivized to delay that purchase until prices fall further.
If you know an item you want will cost less next week, you will likely wait to get a better deal. This turns into a cycle in which people stop spending money altogether.
This actually happened in Japan during its “Lost Decade.”
And now that consumer prices in Japan have fallen for the first time in years, people are concerned that this could happen again.
This can be dangerous for stocks because deflation decreases the value of goods and assets, which increases the value of cash and other liquid assets.
Stocks fall into that category, and because cash becomes so valuable and investment becomes so expensive, deflation leads to a liquidity trap. People just don’t want to invest.
Mixed Signals from EWJ’s Chart
EWJ is an exchange-traded fund (ETF) that tries to match the performance of the Japanese stock market, and right now, despite deflation concerns, it is flashing a bullish sign.
Regular readers will recognize the bullish “golden cross” on the chart below, which occurs when a shorter-term moving average crosses above a longer-term moving average. It can be a sign of bullishness to come.
Daily Chart of iShares MSCI Japan ETF (EWJ) — Chart Source: TradingView
But if you look at EWJ’s trading range over the last few months, it points down. At this point, I think the fear of another deflationary spiral will keep the ETF from jumping higher once it hits down-trending resistance.
With a ratio spread, traders can add a downside trade to their portfolio for a very low price, and when EWJ retests or breaks below its down-trending support, they’ll be there to collect.
Using a spread order, buy to open 1 EWJ Sept. 11th $54 put and sell to open 2 EWJ Sept. 11th $51 puts for a net debit of about $0.20.
Note: Be sure you are opening the weekly EWJ options that expire on Friday, Sept. 11, 2020.
This is a high-risk trade, so take a small position.
About Ratio Put Debit Spreads
A ratio debit spread is simply a way to lower the cost of buying options, as the two options that you sell to open (short) help offset the cost of the option that you buy to open. Therefore, this ratio put debit spread is a way to lower the cost of establishing a bearish put option trade. Many brokers will require the use of margin and/or a set amount of reserved capital to execute a ratio debit spread; contact your broker directly for specific requirements.
InvestorPlace advisor Ken Trester also brings you Power Options Weekly, which delivers 5 new options trades and his latest trading advice to you each Friday. Trester has been trading options since the first exchanges opened in 1973 with a winning streak that goes back to 1984 with money-doubling average annual profits since 1990.