Japan Triple Selloff Flagged by GPIF Adviser Turned CEO

Investors will dump Japan’s bonds, stocks and currency should the government fail to regain control of its finances, said Makoto Utsumi, who heads the nation’s second-biggest ratings firm and helped shape its pension fund.

“The triple selling of Japanese government bonds, stocks and the yen is as scary as looking down a cliff,” Utsumi, the Chief Executive Officer of Japan Credit Rating Agency Ltd., said in a Feb. 3 interview in Tokyo. “Japan needs to show its commitment to fiscal consolidation and skirt a hard landing.”

The 79-year-old, who was the top finance ministry official on the yen until 1991 and a member of advisory panel on the 2006 establishment of the Government Pension Investment Fund, said markets may face a “nightmare” unless the government shows commitment to reining in the world’s heaviest debt burden. The nation must go ahead with the second stage of its plan to double the sales tax to 10 percent and improve its finances to avoid hedge funds dumping Japanese assets, he said.

Credit-default swaps that insure Japan’s sovereign debt against default for five years touched 56 basis points on Jan. 27, the highest since Nov. 5, according to data provider CMA. They have risen 11 basis points this year, the most after Iceland among the 22 sovereigns tracked by Bloomberg, as the Topix index erased 8 percent of its value. Japan’s currency slid 18 percent versus the dollar in 2013, the biggest drop in more than three decades.

Deficit Threat

Rating & Investment Information Inc. said last week Japan’s current account, which has maintained an annual surplus since at least 1985, may enter a deficit over the medium term. Net liabilities, or total debt less financial assets, will reach 142 percent of gross domestic product this year, according to estimates by the International Monetary Fund.

“Debt outstanding continues to accumulate at a high pace, with limited room for further lowering of long-term interest rates,” R&I, which has the second-highest rating on Japan at AA+, said in a report on Feb. 5 . “Japan’s fiscal situation is becoming less resilient to higher interest rates.”

The 10-year yield will reach 0.85 percent by year-end from 0.61 percent as of 11:43 a.m. in Tokyo, according to the weighted average of analysts in a Bloomberg survey. That would deliver a 1.7 percent loss should the forecast prove accurate and may end the longest run of annual gains in the decade through 2013, Bank of America Merrill Lynch index shows.

Japan posted a record 638.6 billion yen ($6.2 billion) deficit in its current account in December, data from the Ministry of Finance showed today, pushing the 2013 surplus down to about 3.3 trillion yen, the smallest in data going back to 1985. A surplus allows Japan to be less reliant on foreign capital and makes the yen a haven from financial turmoil.

Tough Path

“What lies ahead of Japan is a tough path,” said Utsumi, whose company gives the nation its top AAA rating. “We can’t indefinitely continue policies that can be taken as monetization and have to put the fiscal house in order.”

The yen traded at 102.39 per dollar, after the Bank of Japan’s record stimulus helped push the currency down in 2013. The difference in the number of wagers on a decline in the yen versus the dollar compared with those on a gain -- net shorts -- was 76,829 on Feb. 4, the least since November, data from the Washington-based Commodity Futures Trading Commission show.

“The yen’s weakening trend remains unchanged this year albeit at a slower pace than in 2013,” said Utsumi, who led Japan’s currency policy from 1989 to 1991 as vice finance minister for international affairs. He said the currency will trade at about 110 per dollar by year-end, the weakest level since August 2008.

Nikkei Puts

While the recent slide in emerging market currencies has encouraged futures traders to pare bearish bets on the yen, the cost of protecting against declines on the Nikkei 225 Stock Average of Japanese shares surged to a one-year high.

Puts protecting the Nikkei 225 against a 10 percent drop for the gauge cost 6.5 points more than calls betting on gains, according to data on one-month options compiled by Bloomberg. The price relationship known as skew rose to 11.2 on Jan. 31, the highest since Jan. 18, 2013.

The Nikkei 225 has tumbled 10 percent this year, as demand for relatively safer assets helped Japanese government bonds deliver investors a 0.8 percent return, a Bloomberg index shows.

Although Japan’s deteriorating fiscal health is cause for concern, many investors continue to hold the bonds.

“The risk of Japan defaulting is not zero, but the million dollar question is whether it’s 10 or 20 years later,” said Toru Yamamoto, chief strategist at Daiwa Securities Co. “As an investor, if we don’t hold any JGBs, we can’t get a stable return and we would go bust before Japan does.”

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