The money board hates Japanese people
... and probably giving advice concerning FX markets as well (unless of course we're talking about Iraqi dinars).
If I'm not mistaken, the FX hedging in the DXJ ETF is going to come at a cost, and one that might be hard to estimate in advance, as it will probably be using quantity adjusting options (or " quantos
") which are essentially embedded currency forwards with variable notional amounts. (See also LINK
Given the volatility jumps in the yen and the Nikkei, it looks plausible as a good speculative investment, as there might be changing political winds in Japan that would seek to depreciate the yen (against the normal wishes of an aging voting demographic), while focusing instead on corporate productivity growth and finding new sources of labor.
However, you have to keep your eye on FX markets, which are very political and artificial in the sense that they are at the whim of central bankers. Looking at DXJ
, it appears to hedge against currency movements in either direction, which would seem to indicate that you will pay more for this hedging service as the expected volatility of the USD-JPY exchange rate rises, as it has done recently.
Investors use quantos when they believe that a security will do well in another country but fear that country's currency will not. Thus, investors buy an option in the foreign stock while keeping the payout in their home currency.
But what happens if the yen swings back in the other direction and appreciates versus the dollar, causing the Nikkei to slump as exports fall?
For decades many U.S. investors participated in the so-called "carry trade" where they would borrow at Japanese interest rates, sell the yen short, lend at higher U.S. interest rates, and then convert to repay in yen. It worked great so long as the yen didn't appreciate against the dollar too much, and the very presence of the carry trade was a factor in helping to keep the value of the yen down somewhat.
Since 2002, however, the yen has appreciated against the dollar a good bit. So it's just something you need to keep and eye on and know your costs of hedging, especially given a volatile environment like this:
As we can see from the above description, the key aspect of this fund is the hedged exposure to the fluctuation of the yen. The yen was trading at 78 per $US pre-election up to a current quote of 93 per dollar for a stunning 19% move. The DXJ has managed to move from $32 to $41 for a stellar advance of 28% in the same time frame. For the year, "Japan's Nikkei gained 23% in 2012, its best gain since 2005, but the popular EWJ is up just 6.3%, thanks to a declining yen (FXY -11.3%). The DXJ -- hedged against currency fluctuations -- is up 16.5% YTD." The stellar returns of the DXJ highlight the importance of the currency hedge.
In any case, I have no idea if it's a good time to invest or not, but it certainly is something interesting that you don't see too often on this board.