Abeconomics and the Nikkei: correction over?

by George Hatjoullis


The above chart (courtesy of IG Index) suggests the Nikkei correction may be over. The move lower seems to have stopped at, and emphatically rejected, the 50% retracement. Recall the discussion on the Fibonacci series and its use in chart trading. The 50% retracement is a big level and not uncommon. The speed of the move is what caused concern but, once again, not uncommon after an extended rally and in the early stages of a bull market. After the longest bear market in history (I suspect) investors may take a while to warm to the idea that the Japan market is finally in a sustained bull phase. Another positive sign is that the market closed the week on the uptrend line, leaving a doji-like candle in its wake. The chart offers a little hope.

The early signs of a bottom were evident as press reports of a 20% ‘bear market’ decline emerged. It is too early for the Nikkei to move into a bear market. It has barely started its bull phase and Abeconomics is still building up steam. Abe has further policy changes to effect and has important elections in the upper house on July 21, 2013, to negotiate. These elections are important in giving him a free hand for a few years.

Ultimately, the outlook depends on the vast pool of liquidity sloshing about in Japan making its way into Japan equities. These pools adjust slowly though when they do it tends to be  collectively. So far the rally has been led by foreign investors and many were probably taking profits and/or getting stopped out in the last 3 weeks. There are signs of life domestically though. The Japan Government Pension Investment Fund has bowed to exhortation ( exhortation is very powerful in Japan) and announced an asset reallocation from bonds to equities which will add a whole 1% more to Japan equities. Does not sound much but as the fund size is over one trillion US dollars it is not insignificant. Moreover, it is probably the start of a pattern that may accelerate after the upper house election. One percent here and two percent there and soon you are talking serious money.

The economy is also doing a little better than was thought. It grew by an upwardly revised annualised rate of 4.1% in the first quarter of this year. The most important thing is that this growth was largely domestically generated which suggests Abeconomics is inspiring the locals. Add to this that the US economy seems to be in a steady state and the news this weekend is very positive.

The health warning remains the JGB market. The success of Abeconomics could cause an avalanche of JGBs to hit the bid and market failure. The Government of Abe claims to be developing a plan to manage the volatility but so far nothing concrete has emerged. It has been the constant refrain of the Abeconomics blogs published here that there is only one way to do this and that is for the BoJ to buy the debt and cancel it. In short a period of monetary financing of Japan government expenditure. It remains the refrain and as it has already been explained. I will not repeat.