More Evidence of Yen Strength in 2007

Watch-out global investors!

For the first time in 16 years, Japanese real estate prices posted an increase in 2006. If the trend persists in 2007, it'll provide more fuel to my argument for a stronger Japanese yen versus all major currencies this year. It'll also imply a major unwinding of the infamous yen "carry-trade," which involves borrowing in low-yielding yen and reinvesting those proceeds in appreciating foreign assets. If you thought the last several market declines were ugly, spurred lower by fears of a rising yen since last May, wait until what lies ahead as the yen heads to 110 to the U.S. dollar.

Residential land prices rose an average 0.1% in 2006 while commercial property prices gained an average 2.3%, according to the Ministry of Land, Infrastructure and Transport in Japan. In 2006, residential and commercial property values declined 2.7%. Indeed, for the first time since the great Japanese asset "bubble" peaked in 1990, land prices are appreciating again. And foreign investors are taking notice with Morgan Stanley among the biggest international investors in Japanese real estate the last few years.

The danger for global investors in 2007 remains a recovering Japanese economy. It's a danger because the Japanese are going to raise interest several more times over the next 12-18 months, forcing leveraged traders out of the carry-trade market -- and probably violently.

For the first time in Japan's post-2003 recovery, real estate values are increasing. Though consumer spending, which accounts for 75% of gross domestic product remains fragile, an increase in housing values should catapult consumer spending as household wealth increases. It's a natural progression of circumstances that occurred in the United States and Canada over the last five years as well. Rising home values encourage domestic consumption, forcing central banks to raise rates to quash rising prices or inflation.

The good news is that Japanese inflation isn't about to surge any time soon. The country is still transitioning from a protracted deflationary environment into an era of rising inflation and gradual economic expansion. But this transition will come slowly. The risk, which is real and indeed felt across global markets over the last 30 days as the yen rose in value, reminds investors how delicate this transition must be in order to avoid a systemic panic.

Average rating
(0 votes)