How To Make Money In The Global Correction

That’s why this week’s Global Bull Market Alert sees our first currency recommendation. Even as global stock markets were enduring their worst week in four years, the spanking new Japanese currency ETF (FXY) shot up 3.7%. And here is why we think the Japanese yen is the place to make money over the weeks and months ahead.

First, the yen is already the most undervalued currency in the world. Since the collapse of the Japanese asset bubble in the late 1980s, Japan’s economy has been recovering slowly thanks in large part to the Bank of Japan’s extremely low interest rate policy. This has caused the yen to become remarkably undervalued. Indeed, the yen hit an all-time low against the Euro last month, and its trade-weighted value was at its lowest since 1970. According to the Economist‘s Big Mac Index — which I analyzed in a recent Global Guru — the yen is undervalued by approximately 28%. At some point, this imbalance must be corrected and the yen has to rise.

Second, recent economic news from Japan indicates that the era of virtually free money in Japan is over. Japan’s Ministry of Finance reported that Q4 (ended in December) capital spending increased 16.8% — beating the prior quarter’s reading of 12.0%. With annualized Q4 GDP expected to be revised to 5.1% from 4.8% (that’s more than twice the rate of U.S. GDP growth), the Bank of Japan is set to raise interest rates more aggressively from now on. And higher Japanese interest rates mean a rallying yen.

Third, last week may mark the beginning of the end for the much vaunted "carry trade" — a financial sleight of hand that has been a license for global traders to print money over the past few years. With Japanese interest rates at 0.5%, and interest rates in the United States at 5.25%, traders borrowed billions in yen, and invested billions into U.S. treasuries. The more speculators entered into the yen carry trade, the more the yen depreciated — thereby amplifying the distortions. But with the yen rallying sharply last week, that game may be coming to an end.

Finally, the recent market turmoil may spell the end of the era of historically low volatility in the markets. That alone is sufficient for traders to close out their highly leveraged positions by buying yen, causing the Japanese currency to appreciate sharply. When hedge funds unwound their yen financed positions after Russia defaulted on its debt in 1998, the yen skyrocketed by 20% in two months.

So buy the Currency Shares Japanese Yen Trust (FXY) at market today and place your stop at $81.95. That means for every $100 you would be willing to risk on this trade, you would buy approximately 25 shares. Twenty-five shares would cost you about $2,150, based on Friday’s closing price of $85.85.

PORTFOLIO UPDATE

Since last Wednesday’s special alert, we have been stopped out of our positions in the Singapore ETF (EWS) and the National Bank of Greece (NBG). Although the fundamentals of both remain intact, it is crucial that we adhere to our stops. In addition, we stopped out of Home Inns & Hotels Management, Inc. (HMIN) and Woori Finance Holdings Co. Ltd. (WF). Once stock markets settle down, we can re-enter the market more aggressively. Until then, better to keep your powder dry for the next campaign.