'Japan Premium' Continues for TIBOR vs. LIBOR

The expression ‘Japan Premium’ gained popularity following the failure of Hyogo Bank in 1995 and collapse of Yamaichi Securities in 1997.  In 1997, the TIBOR (Tokyo Interbank Rate) overseen by the Japan Bankers’ Association (JBA) the rate at which Japanese banks (mainly city banks) lend to one another, rose to 30-35 bps higher than LIBOR (London Interbank Offered Rate) which is set by the British Bankers’ Association. Since about ¥100trn of Y433trn in bank lending (with more derivative transactions tied to LIBOR/TIBOR) is priced off of Tibor, one has to ask why the ‘premium’ still exists where the financial position of Japan’s banks is no longer an issue. This discrepancy also undermines the efficacy of the BOJ’s new negative interest rate policy.

A 2002 study suggested that the premium was due to declining long-term JGB yields, a flatter yield curve and weaker bank share prices, which all served to raise the risk premium. [1] Some regulators blame the discrepancy on the pedantic nuance, where  London bankers are being asked ‘what they think they have to pay’ as opposed to ‘what they think the prevailing rate is’ in Tokyo. However, some have alleged that TIBOR rate setting involves some collusion.[2]

This premium is all the more surprising given the publicity received from the Yen Libor fixing probe which saw heavy fines for Deutche Bank, UBS and Barclays (among others) for allegations of price fixing between 2005-2009.

One of the main objectives of increasing the ‘excess reserves’ in the BOJ’s ‘current account reserves’ is to ensure that banks follow the central bank’s policy rate. In the case of Japan or the ECB, the rate on  excess deposits becomes a floor for interbank overnight lending where the central bank tries to keep interbank lending close to the lower bound to have an effective interest rate policy. Japan’s excess reserves (the reserves in excess of mandatory reserves and special lending commitments) has averaged ¥178trn over the last 3 months, well above the ¥30trn, or so, we calculate as necessary to maintain bank discipline within the lower bound of -10bps. Still the fact that TIBOR is 18bps above the floor is surprising as I had expected the gap to come down to 10bps, for a TIBOR of close to zero. For reference, Euribor  rates are currently hovering at -18bps compared to the ECB deposit rate of -30bps. While Eonia overnight bank rates have been hovering around -25bps, only 5bps above the ECB deposit facility of -0.30%.

Meanwhile the premium for interbank rates over the 3 mo. Interest swap swap has expanded as banks factor in further cuts to deposit rate in the future.


[1] Vicentiu Covrig, Buen Sin Low, Michael Melvin, A Yen is Not a Yen: TIBOR/LIBOR and the Determinants of the Japan Premium

[2] FT March 19, 2014, FT February 16, 2013

3/3 Earnings Summary - Not much change YoY Aggregate numbers not great but not bad.....

We still have some stragglers who have not announced, but the majority of names are in. With only 40 new names the aggregate numbers have not really change much over last week. YTD aggregate YoY OP growth is at 14% and aggregate Net Income growth is now at 6%. YTD YoY growth at the sector level are also positive. Only 8 out of 31 Sectors have negative YoY growth. The worst is Iron & Steel with OP down 35% YoY and Mining OP is down 27% YoY. On the positive side, OP for the Electric Power and Gas is up 140% YoY and aggregate OP for Pulp & Paper is up 60% YoY

 Looking toward the full-year numbers, we have now achieved 78% of full-year aggregate OP guidance and 79% of full-year Net Income guidance. At the sector level, Pharmaceutical sector has already achieved 111% of its full-year guidance, Land Transportation has achieved 91% of its full-year OP guidance and 88% of OP guidance has been achieved in Rubber Products. On the other side, Machinery has only achieved 67% of full-year OP guidance and Wholesale Trade has only achieved 68% of full-year guidance.

 The gap between Company guidance and Consensus estimates remained the same. At the aggregate level, Net Income guidance is now 7% below consensus and aggregate OP is now 4% below consensus. OP guidance for Electric Appliances is 5% below consensus. Guidance for both the Rubber Products sector remains 9% below consensus. However, OP guidance for the Pharmaceutical sector is now 6% below consensus, compared to9% below last week.

 Looking at what consensus is doing after announcements,OP consensus is up 0.5% since announcements, consensus OP for the Marine Transportation sector dropped 4% last week and Nonferrous Metals consensus estimate fell 2% last week to a total of 5% since announcement. Consensus estimates for Other Financing Business was also reduced by 2%. On an overall absolute basis, OP consensus estimates for the Securities % Commodities is down 8% since the announcements.

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Abe’s Growth Promises and Defying the Law of Demographity

As an undergrad in Economics, I was introduced to Gary Becker’s ‘Rotten Kid Theorem’ which argued that a benevolent figurehead could transfer utility to his children because they recognized that it was in everyone’s interest to maximize total welfare, even if one happened to be a ‘rotten kid’. Because of the expectation of future wealth transfers, family members adjusted their expectations in certain periods so that they could maximize their utility over time.

I was fascinated how one could apply this analysis to the theory of employment in Japan in contrast to the West. Employee loyalty to their firms was enhanced by promising a degree of long-term employment, in exchange firms could afford to invest in their employees, rotate them between divisions to get a better understanding of how the entire firm worked, and when they approached their mid-late thirties, both firm and employee would theoretically start to see a higher payoff.

 In contrast, Western firms which often focused on developing experts, with limited reciprocal obligations between firm and employee, were forced to deal with their ‘rotten kids’ (sic employees) by offering them instant gratification with high wages and bonuses lest they move on to the next highest bidder. The drawback being, that Western firms would be afraid to invest too much in their employees (lest they move on to their competitors) limiting the overall potential utility curves or ‘pareto optimality’ that the collective firm could achieve.

Being the early ‘80’s, business literature was obsessed with analyzing the Japan miracle, with books such as ‘Kaisha, The Enigma of Japanese Power, and Japan as #1’ must reads. Japan’s growth translated into per capita income growth that was driven by growth in high value auto and electronics and the real estate bubble.

By 1990 Japan had one of the world’s highest per capita GDP along with the US and Sweden as manufacturing reached 25% of GDP. Today manufacturing has fallen to 18.2%, which doesn’t seem so bad when one thinks that the US is only 12% manufacturing. But, unlike the US, it has been unable to develop a financial services, IT and software sector that can export on a global scale. Worse however, Japan’s per capita income has now fallen below many of its OECD counterparts.

…….though it doesn’t look as bad in purchasing power parity (PPP) terms because deflation has generally supported real purchasing power (below).


                                                                                                                                                                                   Source: OECD, Custom Products


                                                                                                                                                                                 Source: Bloomberg, Economist, Custom Products

At least if you have to live off a diet of Big Macs and fries, you are still relatively better off in Japan. Japan's relative purchasing power is actually much more compelling where typical Asian cuisine is considered.

Japan, however, is no longer dominant in many technologies that it pioneered, such as LCD, solar, lithium ion batteries, memory, smart phones and high speed trains; much of which  have largely passed on to Asia.  

Though there are, no doubt, many burgeoning technologies waiting for the light of day, venture capital in Japan is still nascent with $1bn invested last year compared to $50bn in the US. Sure, one could say that this would provide infinite opportunities for overseas venture capital investing in Japan, but the reality is that these firms are far more interested in duplicating successful global models in Japan rather than trying to adapt Japan’s Galapagos technology worldwide.

The days have passed when most department stores had their elevator girls and train stations had their confetti bag laiden ticket clippers waiting at the exits. But Japan, if anything, is moving further towards a service Economy.  Unfortunately, the labour productivity gains over the last 20yrs have come almost exclusively from the manufacturing sector, with retail, transport, restaurants, hotels and business services falling well below their global peers for productivity.[1] At least the service is still great!

Significant revisions to the labour personnel dispatch laws in ’95 and ’99 made it much easier to employ irregular and subcontract workers, and hence began a dumbing-down of the workforce since less time was spent on education and training in general (putting Japanese workers in more direct competition with their Asian neighbors).­  Average monthly wages (including overtime, bonus and social welfare deductions) have generally been flat over the last 5 years, though increased 0.3% in 2015 due to overtime and bonuses, but management is reticent to add to fixed costs with wage increases as it would rather maintain flexibility through higher bonuses. Legally mandated social welfare costs, mainly paid by employers, have risen at a compound rate of 1.39% pa over the last 20 years while nominal wages have only increased 0.27% pa, such that social welfare costs have risen from 10.4% to 14.8% of wages during this time (Keidanren December 2015).   

Ministry of  Health, Labour and Welfare




Ministry of  Health, Labour and Welfare

In many ways, Japan has fallen prey to the Asian deflation which has forced it to compete with its Asian neighbor in the technologies that it once dominated. No longer are companies, like SONY, able to command a premium for products such as they enjoyed with the Trinitron TV in the seventies. It is now largely a question of price as the gaps in quality have gradually disappeared. So we now buy LED or OLED screens rather than looking for a particular brand TV. When was the last time you heard the salesman say ‘it’s made at Kamiyama (previously Sharp’s showcase factory and sign of quality)?

In the late 90s, both Japan and Korea were trying to penetrate the Chinese market, Korean manufacturers made a conscious effort to go for share by reducing prices for their key high growth products. Japanese manufacturers, on the other hand, thought they could command a premium for their products. As demand fell behind, Japanese manufacturers started lowering prices in an effort to gain market share. This brought the once proud showcase factories in Kamiyama, for sharp, and Yokkaiichi for Toshiba into direct competition with their Korean, Taiwanese, and Chinese rivals. Japan tried to compete by using relaxed labour laws for contracts employees which served to suppress wages. In the end, many of these lines were transferred elsewhere in Asia.

Source:Trading economics


Japan has seen a sharp downturn in terms of trade (output prices divided by input costs)  since 2000, hurting wages and profitability.

Japan has also seen its white goods industry slowly losing its advantage to LG, Haier, Daewoo , and TCL or Seiki in the case of LCD TVs. Sanyo has been absorbed into Haier, and Sharp may soon go to Foxcon.

In 2000, the UN calculated that Japan would have to accept 381,000 immigrants annually if Japan was to maintain her peak 2005 population of 127.5mn. The same study forecast that Japan would need to accept 608,000 immigrants annually to keep its peak working population.

10 years ago, the Japanese labour dispatch company Fullcast made a presentation to a Diet committee claiming that Japan needed 5 million foreign workers, including 500,000 in health and elderly home workers,   if she was to grow over the next 10 years. Several years later, the first group of 50 Indonesians who had managed to pass the rigorous Japanese nurse helper’ exam came, but it seems that it was never more than a trickle.

For more than 20 years, the warnings of the shrinking of Japan’s population have gone unheeded and have rather been met with a tacit acquiescence, an eery resignation to ones fate, as if nothing could be done to stem the problem.  Only now the government is starting to pay lip service to this crisis by trying to promote increased labour participation and childcare services with its ‘ichioku sokatsuyaku shakai’ plan (‘100 million actively participating society in 50 years’).

Last year, Mr. Abe introduced the second act to his ‘Three Arrows Plan’ with the slogan ‘Y600trn GDP and 100mn active population’ as the pillar of his growth plan.  At current trends, Japan’s population which peaked at 128mn in 2008 will fall to 86.7mn by 2060. The new plan focuses on 3 key areas for its success: holding the line on population decline to 100mn by 2065 by lifting the birthrate from 1.4 to 1.8 per 100, increasing the labour participation rate of the 9.5mn unemployed and underemployed and lifting wages, particularly for irregular workers. The math is simple enough, 3% annual wage increases (1% real) gets you to ¥600bn in 5 years. But the plan falls short on details.


IMF Working Papers 2012[2]


Japan’s birthrate would be higher if childcare was better, allowing for a higher labour participation rate (above). Household income for low wage earners also doesn’t really support a second child (below), while female workers who try to supplement the household income are further disadvantaged.


 Source:IMF Working Papers 2012


Ministry of  Health, Labour and Welfare

Unfortunately, I am pessimistic that any significant real income growth is likely over the next decade. Japan has been undergoing de-industrialization over the last 25 years as manufacturing has fallen from 25% of GDP in 1990 to 18.2% last year. Manufacturing jobs enjoy about 15% higher incomes than those in the service sector (Min of Health, Labour & Welfare). Demographics hurt too, because the average Japanese is now 47yrs old, which coincides with peak productivity. Labour participation rates have fallen from 62% to 59.5% since 2000 but part-time participation has doubled from 14.5% to 30.5% since 1995. Labour productivity is still down sharply from peak in March 2007 (101.4 vs 119.1, Japan Productivity Center).

Few of the 1980's revisionists could have envisioned Japan’s current predicament; low wages and low growth. And many new graduates who would have subscribed to the 'rotten kid theorem' as new recruits in the 80's under lifetime employment, may have had second thoughts. Japan faces the prospect of becoming another Italy, which might not be too bad, depending on your perspective.


[1] EU KLEMS data

[2] IMF Working Papers 2012, Who Can Boost Female Labour Force participation, Yuko Kinoshita, Fang Guo


What Worked Asia - 12 Feb 2016 - When markets were open this week Value and Beta were hurt (except in Korea)

What Worked As it was Chinese New Year this week, the numbers are really pretty much all over the place. Hong Kong only had 2 trading days and that was dominated by a sell-off in Value and High Beta names. Evergrande Health Industry was down 23% and EO Technics was down 20%. Large-cap names did slightly outperform in Hong Kong. India was open for most of the week, but the results were the same. Clear rotation away from Value / Beta and into Quality. Procter & Gamble Hygiene was up 6% and Apollo Tyrese was up 9%. South Korea only had 2 trading days this week. But high dividend yield and large-cap names dominated. High Div yield names that did well were Daewoo International was up 10% and KIA Motors was up 4%. Singapore was open for 3 days but really nothing stood out other than a selloff in high Beta names. Golden Agri-Resource was down 7% and Noble Group was also down 9%.

Who Moved73 names spiked on volume this week with the majority of volume spikes coming in India. This is no surprise as most of the other regions did not have a full week due to the New Year. On the positive side, Philex Mining was up 26%, Petron Corp was up 14% and Big C Supercenter was up 9%. On the negative side, Punjab National Bank was down 21%, Indo Count Industries was down 23% and Tata Motors was down 13%.

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What Worked Japan - 12 Feb 2016 - Retail names did well as Value / ROE factors continue to be beaten up

What Worked With TOPIX down 11% this week, FY1 PE was beaten up the most in the Value category. FY1 PE came in with a negative 39% IC. FY1 PE has only worked once in 2016. Low PE names that were hurt were Dowa Holdings down 28%, Taihieiyo Cement down 28% and NEXON down 24%.  Surprisingly low PBR names did not do that poorly given the huge drop in TOPIX. However PBR has not worked at all this year. Kaneka Corp was down 25%, Mitsubishi Materials was down 22% and Tokai Tokyo Financial was down 22%. Beta continued to be get destroyed this week. Beta has continued to do very poorly since the middle of October last year. Sysmex was down 26%, Aiful was down 22% and Toyo Tires was down 23%. Low ROE names also took a big hit this week. As with the other factors, ROE has really only done well once since the beginning of December last year. Names with a high percent of Retail Investors did do well this week and continue to be the only factor really working. Lion was up 2% and Oriental Land was up 2%.

Who Moved50 names moved on volume this week. There were only 9 names with positive returns in TOPIX 500 and none of them moved on strong volume. So on the negative side, Asahi Glass was down 26%, Yamaha Motors was down 23% and Nomura Holdings was down 22% all on strong volume.


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What Worked Australia - 12 Feb 2016 - Momentum back in Favour

What Worked – In what has been a pretty terrible week for equity markets around the globe, Australia has not been spared by any means. Momentum fared well for the week, driven equally by a sell-off in the laggards, and a good helping of outperformance in the winners. All guises of momentum saw good headline numbers this week, although it was the shorter term (1 Month Price Momentum and 1 Month Earnings Revision Momentum) that took the show. With a slew of negative interest rate talk around, the finance sector took the worst of it this week, although likely more of a contagion affect from their European and US cousins than any real threat of it happening in Australia. Already the focus of a good sell-off, Magellan Financial (MFG, -9.1%), Macquarie Group (MQG, -8.3%) and Henderson Group (HGG, -12.5%) where amongst the worst affected, while the miners rebounded – Northern Star Resources (NST, +16.7%), Evolution Mining (EVN, +22.4) and Independence Group (IGO, +17.7%) were are the top of the list.


Who Moved – 27 names posted substantially higher than normal volumes this week, and for the most part ended the week lower than they started. OzForex (OFX, -39.2%), Bank of Queensland (BOQ, -16.9%) and Computershare (CPU, -13.9%) faring the worst, while Evolution Mining (EVN, +22.4%), Ansell Limited (ANN, +13.4%) and Cochlear (COH, +11.7%) all came out on top.

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As a longtime follower of Softbank, I’ve always enjoyed what new challenges and dreams Masayoshi Son would lay out. And though I appreciate guidance, I was a bit taken back by his 300 year plan in 2010. Despite some earlier stumbles with Ziff-Davis and Kingston Technologies, Softbank finally succeeded with the listing of Yahoo Japan in 1996. When Softbank bought Japan Telecom in 2004, many didn’t know what to believe, thinking that it was quite a departure from their core strengths. One of their competitors lamented, “We don’t know how to respond, [They] are used to fighting guerilla wars and we don’t know how to fight a guerilla war”.

Several years later, I ran into one of the former executives at Japan Telecom who oozed with admiration saying, “What they did with Japan Telecom was nothing short of miraculous”. Given this record of success and increasing forecasts for the value of Alibaba, from $25bn in 2009 to $300bn shortly after the 2014 listing, one can appreciate why Mr. Son enjoyed a certain ‘confidence’. Then Softbank purchased Sprint in the summer of 2013, just after Sprint had bought Nextel with the massive bandwidth that it owned. I must say though, that I was perplexed and it wasn’t until the following year when Softbank made a bid for T-Mobile when it all made sense. It would have been the perfect strategy, had not the misguided US federal antitrust officials nixed the deal, questioning the anti-competitive aspects of the deal. Such convoluted logic, that two weak players and two dominant players, make for a more competitive playing field; would probably have Joan Robinson, with her ‘monopolistic competition theory’, rolling in her grave.

 In late 2014, Softbank was raising money to pad down its war chest and some brokers called me, asking whether I was interested. I remembered how Softbank had had to offer the syndicate of 15 or more banks its cash flow from the 2004 Japan Telecom purchase as collateral and over 4% interest to close the ¥1.7trn loan. So when the broker said that the subordinated 7-yr bonds paid only 2.5%, I decided to pass. In the last year, Softbank’s interest bearing debt has reached ¥11.6trn and net debt ¥8.3trn (including ¥3.1trn in bonds). Markets have increasingly priced Softbank against its core assets (Ch1). As the share price of its assets have fallen, fears that Softbank  getting out of its US quagmire would take more than [a] Sprint, have weighed heavily on the shares. The price of insuring Softbank’s debt has also risen to 383bps, but surprisingly, the recent bonds have held up much better than the equity. (Ch2) Like the former JT executive, however, my admiration for Mr. Son’s chuzpah is unshaken.

Chart 1: Softbank and its Holdings

The yellow line represents the combined market capitalisation of Softbank's holdings in Alibaba, Sprint, Yahoo Japan and Gung Ho

Chart 2: Softbank Shareprice, Volatility, CDS and Bond Prices

Note: Chart shows Softbank's share price (inverted) against stock volatility and CDS. Softbank's 53/8 bond traded at 98.741 as of 2/10/16 while Softbank 21/2 traded at 100.446

With the market jumping all over, volatility is up 55% on average

With the market bouncing all over the place, we know that volatility is through the roof. However, we took a closer look to see which Sectors and which particular names have seen the biggest volatility jumps in 2016. At the sector level, Energy Minerals saw an 80% jump in volatility this year compared to last year. Volatility in the Industrial Services and Producer Manufacturing sectors is up 61%.  On an absolute basis, Commercial Services has the highest volatility in 2016, followed by Technology Services and then Non-Energy Minerals.

At the Company level, Seiko Epson’s volatility is up 186% compared to last year. Mcdonalds Holding volatility is up 162% and Cookpad’s volatility is up 159% compared to last year. Seiko Epson and McDonalds Holdings are actually only down slightly over the last month. If we just look at the large-cap names. Murata Manufacturing’s volatility is twice that of last year and volatility in Nomura Holdings is up 119%. While both names are down over the last month they are definitely bouncing around a lot. Nippon Steel & Sumitomo is also down 12% and is bouncing around even more.

NTT Docomo and Canon Marketing are the exception. Both made the screen below but are part of the few names with positive returns over the last month. 

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Welcome to the CPG Research Blog

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