Japan's Historic Moment Creates Historic Confusion

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Japan’s Historic Moment Creates Historic Confusion

by Ryan Cole, Investment U Research Team

The dust is settling in Japan, and the only thing we know for sure is that no one can agree… on anything.

With the new government in office – the first real time Japan has been ruled by any group other than the Liberal Democratic Party (LDP) since the country became a democracy – there’s plenty of mystery and not much clarity, though everybody seems to have an opinion.

One commentator says government stimulus is about to go wild: Buy Japanese everything, she preaches, especially banks.
But another disagrees: The too-cozy relationship between Japan’s government and contractors is now over, he maintains, so short Japanese construction.
A third claims not much will change: Japan is a conservative ship that turns slowly, if at all.
Yet still another says we’ve never really known Japanese policy, only LDP policy: Prepare for the advent of an entirely new country, where the debt-to-GDP ratio – currently over 200% – will skyrocket and the entire nation will default.
The debt-to-GDP ratio is about to plummet, this one claims, as the new government introduces fiscal conservatism and Japan leads the world out of its current mess.

Does Anyone Know What’s Going On?

Come up with any opinion on Japan right now – absolutely any – and you’ll find a well-respected source that agrees.

My opinion? After living in Japan for five years, spending much of this decade following Japanese progress, and speaking their native tongue, I can say with full confidence…

I have no idea what’s going to happen.

This has never happened in Japan before. In Mexico, about 10 years ago, we witnessed the peaceful death of a one-party system and the emergence of a modern multi-party democracy, and that turned out pretty well.

Of course, Vicente Fox came into a prosperous and growing world, while new Prime Minister Yukio Hatoyama comes into a vicious recession continuously flirting with the big ‘D.’

And – at the risk of stating the obvious – Mexico is not Japan.

There can be no certainty here. We’ve got conflicting trends, no historical precedent and a new philosophy in power that even most Japanese aren’t familiar with.

Anyone who tells you they know what’s about to happen either has an axe to grind, or is selling something. Don’t trust them. We’re going to have to wait and see what happens.

But that doesn’t mean we still can’t take advantage of the situation…

Uncertain Times Can Be Profitable… With The Right Strategy

All I can say about Japan is this: We’re likely to see a tumultuous period, at least through the end of the year.

Japan could go up. It could go down. It could do both successively. Whatever price movement it does make, it will have more to do with perception of the new government than anything real happening on the ground.

Luckily, knowing that we’ve got volatile times ahead is enough to make us money. There’s one strategy that’s perfect for times like these: A butterfly spread.

Butterfly spreads are options trades that bet on the upside and the downside simultaneously, with the losing side losing a little and the winning side winning a lot.

It’s not particularly complex or difficult, and it’s designed for moments exactly like these, when you don’t know where the market’s going but you’re sure it’s going somewhere.

Chase Butterflies With This ETF

I recommend executing a butterfly spread on the iShares MSCI Japan Index (NYSE:EWJ), an ETF that tracks the performance of a large basket of Japanese companies.

A mid-term expiration – like January or March – makes the most sense to me, as it gives the markets enough time to form opinions on the new government and react accordingly.

And, since EWJ tracks a large index, I recommend fairly tight strike prices – relatively near where it stands now, since indexes are by nature less volatile than individual stocks.

But if you’re not comfortable with options, I’d recommend staying out of Japan altogether. Big changes are afoot and honestly, no one has any idea what they’ll be.

Good investing

Ryan Cole

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