hedge fund hotel-hawaii

Hedge Funds in Asia

Monday, March 05, 2007

Yen Tired of Carrying the Cheap Financing Load

"Life is to be lived. If you have to support yourself, you had bloody well better find some way that is going to be interesting. And you don't do that by sitting around."

Katherine Hepburn, 1909-2003, actress

No shock here, unless you are long biased of course. The single biggest threat to the recent great performance in hedge funds globally in 2006 and most recently in Japan for 2007 is the Japanese yen.

The yen carry trade, for many years, the party that drove Asian funds into high yield seeking asset mode may be finally eliciting a hangover. Risk aversion on the part of global investors plus the unwinding of so-called trades that were funded in yen from emerging market debt to U.S. asset backed securities are now unwinding with the net result endaka - or yen strength.

Interesting to note that a large number of Japanese financial institutions including regional banks, city banks and pensions have had large positions in these high yielding assets, and now they might just want to bring a lot of that money back home for fear of capital loss. All of this ois happening right on year endfor many Japanese financial institutions.

Japan's Vice Finance Minister Hisroshi Watanabe recently remarked that the size of accumulated carry-trade positions might be as much as Yen 10 trillion. While not a shocker in terms of direct impact and size, it may be the indirect impact and size of the investment decision-making that had become ingrained over the last few years that is going to make this a potentially very scary development. In fact, I understand the foreigners had been net sellers of U.S. equities through February...

This has implications beyond the P&Ls of hedge funds. It impacts the current political environment. The international community is already upset at the the ever so slow managed appreciation in the Remimbi, while Germany had been upset for some time at Japan as the currency had been moving in the opposite direction. What this means is that the Japanese yen trade might easily appreciate another 5-10% over the coming weeks/months and be one of the "best one-way traffic trades" of the first part of 2007.

With the focus on the currency for now, hedge fund managers will be carefully eyeballing the words and actions of the international community on FX rates as a new equilibrium of asset risk-rating works itself out.

After a stellar start to the year, hedge funds in Japan may just have found the going a little rougher as volatility returns with a vengence. Mahalo!