Thu, Feb 14, 2002 page7

• Japanese stocks could be world's best Ponzi scheme

  BUY SIGNAL Nevermind poor market fundamentals. Investors are pouring into stocks, excited about an imminent government bailout of the banking system

  • By William Pesek Jr / BLOOMBERG
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  Things sure look dreadful in Japan. Unemployment is at a record high. Deflation is worsening.

  Rating agencies are threatening more downgrades. Consumers, worried banks will fail, are buying gold to preserve savings.

  

  Pedestrians walk past a stock indicator board flashing a graph of share prices in central Tokyo.

  PHOTO: AFP

  What's a stock investor to do? Buy Japanese stocks, of course, and aggressively, too.

  Equity investors are doing just that these days. Only, the buying has nothing to do with optimism that the economy has bottomed or that global growth is rebounding. Rather, investors are excited about an imminent government bailout of Japan's banking system. Local newspapers are buzzing about rescue plans amounting to tens of billions of dollars.

  That Japan's banks need help is no surprise. What is surprising is how markets are increasingly trading on bailout packages. Just as foreign-exchange traders speculate on when governments will intervene in the market, equity investors are buying and selling based on signs Tokyo will inject public funds into banks, an action that boosts stocks.

  "Any rumors about an additional injection of funds into the banking system could prompt short-covering right now, since everyone's on their toes about a possible announcement by the government," Teruhisa Ishikawa, a manager at Izumi Securities Co, told Bloomberg's Tomoko Yamazaki. "The market has plunged so much that people are expecting that announcements could come any minute."

  Even the government seems to be on to the unusually speculative nature of stock trading these days. Finance Minister Masajuro Shiokawa on Friday said Japan had become "a gambling house" for foreign and domestic short-sellers. If this is true -- and it certainly seems to be -- Japanese policy makers have only themselves to blame. They're encouraging the gamblers.

  Rather than fixing Japan's bad-loan problem, Tokyo has resorted to public bailouts like the one engineered in 1999. Tokyo often props up stocks this time of year as Japan approaches its fiscal year-end. Markets are aware of this and trade accordingly.

  When banks are about to be rescued, stocks rise in anticipation. When it's been a while since a bailout, stocks fall, pressuring Tokyo to act again. And so on, and so on.

  It doesn't require inside information to know Tokyo has no choice but to prop up banks that otherwise would end the fiscal year insolvent. The only question is the timing. Markets are buzzing about a bailout ahead of US President George W. Bush's visit to Tokyo next week. Japan's troubled economy will figure prominently in discussions, and Tokyo wants to pre-empt any concerns Bush may have about the banking system.

  Politicians are again "promising determined deflation- fighting policies," says Richard Jerram, chief economist at ING Baring Securities (Japan) Ltd. "More realistically, we seem to be drifting towards another half-hearted patch, rather than a genuine resolution of the problems."

  Traders and investors are all over that issue. "When bank shares fall to a certain level, expectations for public fund injections become strong, and the banks rise," said Hajime Yagi, a fund manager at Meiji Dresdner Asset Management Co, who helps manage Japanese equities.

  All of this creates a kind of tunnel vision on the part of investors. Take the Nikkei 225 average rally yesterday -- the same day Moody's Investors Service said it might cut Japan's credit rating two notches. Warnings that Japan may soon join the ranks of Cyprus, Greece and Mauritius were ignored. Instead, markets focused on reports that the government may spend US$30 billion buying shares from lenders' portfolios. In short, markets ignored bad economic fundamentals in favor of short-term trading profits.

  The dynamic has all the makings of a Ponzi scheme. Only, the eventual losers will be Japanese taxpayers -- the people who ultimately provide the money to fund bank rescues. In the US, Enron Corp has been dubbed one of the best-ever examples of early investors being enriched by money put up by later ones to encourage more and bigger risks.

  The same could be said not only of Tokyo's bank bailouts, but also Japan's annual campaign to prop up stocks ahead of the fiscal year-end on March 31. Japan watchers call this "March Madness." Investors that get in early will profit as prices rise, attracting new buyers and further boosting prices.

  Tokyo's predictable interventions in the stock market explain why Japan is attracting fewer buy-and-hold investors than it would like. The real money is made taking short-term trading positions.

  The Koizumi government is grappling with ways to reduce speculative stock trading.

  "We must stop [drops in] stocks. It is outrageous that [the market] is loosening and loosening like having diarrhea," Shiokawa said last week.

  Koizumi would be far better off addressing the problems that drove the Nikkei 225 stock average from 38,915 in 1989 to the neighborhood of 10,000 now. Banks are sitting on hundreds of billions of dollars of loans that will never be repaid. That growing debt load keeps banks from lending money and borrowers from seeking it. Until the bad loans are dealt with, Japan will just muddle along.
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