A long-held and often-validated thesis is that Japan equities benefit when the yen is cheap. That implies stocks in that country have intimate correlations to the national currency. Indeed, there have been extended periods of time when that’s been the case. And it’s a scenario that’s benefited ETFs like the WisdomTree Japan Hedged Equity ETF (DXJ ).
However, data indicates yen/equity correlations recently slumped to surprisingly low levels. That isn’t denting the case for Japan stocks.
In fact, DXJ is behaving as expected, if not better. For the three months ending Dec. 5, the WisdomTree ETF gained 12% while an ETF designed to measure yen/dollar fluctuations slumped 5.3%. Over that same period, the unhedged MSCI Japan Index gained just 4.3%.
DXJ Thriving as Yen Correlations Decline
DXJ’s recent showing confirms the ETF remains responsive to yen weakness. But it’s not entirely dependent on intimate ties between the currency and Japan equities. And that’s clearly proving to be a positive for investors.
“The Topix and the yen have been largely moving independently over the past two months, with the coefficient of determination — a measure of linkage between two separate data — almost zero. That’s far below the 0.50 mark that is often considered indicating some kind of relationship,” reported Hideyuki Sano for Bloomberg.
Those correlations have been trending lower for nearly seven months, a period including the Bank of Japan surprisingly and swiftly reversing posture to hawkish from dovish. That reversal prompted a significant decline by Japan stocks in late July/early August. But the asset class has since rebound and DXK now resides within earshot of its 52-week high. That resurgence has occurred without the benefit of intimate yen/equity correlations.
Reality Overcoming Perception?
With the Bank of Japan turning hawkish, the yen isn’t necessarily richly valued. But the central bank’s shift has prompted some global investors to reduce positions in Japan equities. That makes an already inexpensive group of stocks even more appealing on valuation. And that could be a source of allure for investors willing to bet that DXJ can deliver upside in 2025.
Plus, the waning correlations between the yen and Japan stocks could be a case of reality overcoming long-running perception as it pertains to investing in Japan.
“Japan stocks’ past tendency to rise on a weaker yen stemmed partly from a historical perception that the country has a heavily export-driven economy. In reality, it’s been mostly running a trade deficit since 2019. It is the only major economy in the world that has seen virtually zero growth in exports over the last 10 years,” according to Bloomberg.
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