Silver as an investment

Horseman Capital Reveals The “Best Short In The World At The Moment”

When Japan’s PM Shinzo Abe spoke at the Reuters Newsmaker event yesterday, one prominent hedge fund manager was present: Third Point’s Dan Loeb. As Reuters reported, the outspoken billionaire activist investor, whose Third Point hedge fund has recently pushed for change at Japanese companies, said on Wednesday that he approved of the Bank of Japan’s monetary policy move (as we will show in a subsequent post, he was one of the very few who did so) but added corporate reform is still needed to help revive growth.

Loeb, whose $16 billion Third Point fund has been investing in Japan for years, was speaking at the Reuters Newsmaker event featuring Japan’s Prime Minister Shinzo Abe. After making bets on Japanese companies ranging from Sony Corp, to robot maker Fanuc Corp and most recently retailer Seven & i Holdings Co Ltd, Loeb said foreign investors are being welcomed more now. Some large Japanese institutions agreed with his views, Loeb said, noting he has “allies” in Japan and “our interests are aligned.”

Among other ideas, Loeb said he had looked at investing in Nintendo Co Ltd, but stopped short, though he approves of the company’s expansion into mobile technologies. He said he and Japanese investors are looking for the same thing: to have better-run businesses whose benefits will eventually spread “far and wide.” But he added that the potential for increased government protection of small- and medium-sized companies was misguided.

“Let the market determine where workers’ labor is best allocated, let people who allocate capital determine that,” Loeb said. Which, in Japan, is becoming a problem for one simple reason: the BOJ is increasingly nationalizing virtually all capital markets, from that of JGBs to the Nikkei, and increasingly the Topix.

What was more curious was Loeb’s targeted slam at central banks, perhaps the only “arrow” in Abe’s quiver which has worked courtesy of the unprecedented expansion in the BOJ’s balance sheet. As Japan struggles to reignite growth, Loeb said central bankers around the world, including in Japan, had relied for too long on monetary policy to stimulate economic expansion.

“We’ve all relied too much on monetary policy,” Loeb said, adding: “They used to call it the punch bowl. I say we’ve got to take the crack cocaine pipe away and start focusing on real fiscal policy and structural reforms.”

This is ironic, since with every incremental policy shift, Japan relies more and more on ultra-easy monetary policy; a policy which has resulted in dramatic losses and price declines first and foremost for Japan’s banks.

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But while Loeb was still largely optimistic on Japanese stocks, another hedge fund, Horseman Capital Management – a fund we have dubbed the world’s most bearish hedge fund due to its ~100% net short exposure – run by Shannon McConaghy, which is the best of 56 Japan-focused long-short equity strategies tracked by Eurekahedge Pte, after the manager started shorting regional banks at the end of last year, is anything but. McConaghy’s fund returned 14% through August, compared with a 15% decline in the benchmark Topix index through Tuesday.

The latest announcement by the BOJ has done nothing to change Horseman’s opinion: in fact, according to the Hedge Fund, Japanese banks are the latest big short thanks to the central bank’s negative interest rate policy.

Cited by Bloomberg, McConaghy said Japan “is the best short in the world at the moment,” adding that “I don’t have a price target, but I suspect that over the next few years, a number of banks will go to zero – as in bankrupt.

Among the most “appealing” opportunities to short, he listed regional lenders such as Shizuoka Bank, Yamaguchi Financial Group and San-In Godo Bank.

I am shorting banks because there are structural problems with regional population declines,” said McConaghy. “The Bank of Japan’s policies are accentuating the problems by reducing interest-rate income the banks could have earned.”  In the aftermath of yesterday’s BOJ announcement, shares of Shizuoka Bank climbed 6%, trimming this year’s decline to 26 percent. San-In Godo rose 7%, cutting this year’s loss to 24 percent and Yamaguchi added 6% paring this year’s slide to 22 percent. It is unlikely that the gains will hold.

The secular thesis is familiar: Japanese banks have struggled to make money from lending since the BOJ announced plans to start charging fees on some of their reserves in January, a policy that has faced criticism from bank executives and lawmakers as evidence mounts that negative rates are doing little to spur growth and prices.

Horseman was not alone in his bearish assessment of Japan’s banks: “You can debate whether or not the negative interest rate has an positive or negative effect on the economy, but what is clear is that they have a negative effect on the banking sector,” said Chris Dyer, director of global equity, who helps manage $334 billion at Eaton Vance Management (International) Ltd. “It’s a challenging environment for them to make money given the pressures on the net interest margins.”

Horseman, which managed $2.5 billion globally as of Aug. 31 according to Bloomberg, has stood out in Japan, where hedge funds as a group have lost money this year as they’ve struggled to anticipate global market shocks and central bank actions. It may explain why his ideas appear to have spread: Yamaguchi, Shinsei Bank  and Nagano Bank are the most-shorted bank stocks on Japan’s exchange, with about 2.5% of their outstanding shares being shorted, according to data compiled by Bloomberg. Shinsei Bank declined to comment and Nagano Bank couldn’t immediately be reached for comment. As such there is always the risk of a violent short squeeze, although for the time being it remains to be seen what upside catalyst can emerge in the country gripped in the clutches of demographically-induces deflation.

And for those who wish to stay away from banks – after all one day the BOJ may just announce it will buy the country’s commercial banks outright – McConaghy said he is also shorting property developers and real-estate investment trusts, betting a construction boom in Tokyo unleashed by ultra-low interest rates will lead to an oversupply of office space in coming years.

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For those curious, here is a recent note out by McConaghy describing why shorting Japan is the ultimate hedge to uncertainty.