Last Thursday Standard & Poor's cut Japan's credit rating to -AA from AA, warning that "Japan's government debt ratios--already among the highest for rated sovereigns will continue to rise." A stagnant economy, unchanged in nominal terms since 1992, an aging population and escalating entitlement liabilities were all cited for the downgrade, along with the absence of a coherent strategy from current politicians.
Considering I hold a position in Japanese equities, the downgrade got my attention, but frankly not so much my concern.
Among all the factors to consider when making an investment decision, downgrades from rating agencies or other research outfits should be the absolute least influential. For me, it's just something to read while sitting on the can.
Consider the source. Standard & Poor's, a unit of McGraw-Hill (MHP),
And while I know speculation of any sort is an imperfect science, it's especially hard to put a lot of faith into what S&P thinks Japan's economy will be like in the mid 2020s, considering they had an investment-grade rating on Enron four days before it filed for bankruptcy back in 2001.
Rating agencies and research firms always seem to specialize in telling the market what it already knows, exactly why you'll frequently see companies downgraded from "buy" to "sell" only minutes after disappointing news is released. By then it's usually too late.
Just last week, for example, Infinera (INFN)
I know very well the dangers of falling in love with a position. But I actually think S&P's downgrade is a bullish sign for Japan and, at least for now, I'm holding my positions.
What matters isn't an announcement but the market's reaction, and since the downgrade, Japanese stocks as measured by funds like iShares Japan (EWJ)
No Cause for Concern
Standard and Poor's downgrade, while accurate and well-written, only reflects the already-known facts of a bear market which has infected Japan for the better part of the past twenty years.
Urban real estate price indices have dropped by as much as 50% since 1998, according to the Land Institute of Japan, and sit well below their late 1980s peaks.
Urban Land Prices in Japan
Source: Land Institute of Japan Monthly Report, December 2010
Last year only 68.8% of college graduates received job offers, down 4.3 percentage points from 2009 and the lowest level on record.
Japan's malaise has even made it to the silver screen. In "Bubble Fiction," a Japanese science fiction film, a housewife uses her Hitachi (HIT)
The news on Japan has been bleak for years, which is exactly why many money managers have quite simply abandoned the country. As we wrote last November, the past decade has seen huge inflows into emerging markets and out of Japanese stocks. S&P seems to be finally coming around to a conclusion that many investors already made.
And while it's not a perfect comparison, the downgrade made me recall the spring of 2003 when Merrill Lynch dropped their ratings on three Latin banks in which I held a position to "sell" from "neutral." Still relatively unfollowed and unloved back then, I wrote in this column how "from a contrarian's perspective," the downgrade was "a bullish signal." Obviously, Latin American stocks have gone on to soar for the better part of the past 8 years.
The unrest in Egypt could easily prompt risk assets to consolidate recent gains. But unless it's accompanied by weakening price action, a downgrade unto itself shouldn't alter one's investment thesis. S&P has their opinion. I've got mine.
Jonathan Hoenig is managing member at Capitalistpig Hedge Fund LLC. At the time of writing, Hoenig's fund held positions in many of the securities mentioned.