Patrick

Welcome back to the Barclays Brief, it's Patrick here.

Each week we try and pick one big market theme to focus on. And honestly today I was completely torn. On the one hand we've had this huge sell-off in the software sector, but we've also had the Japanese election, which kicked off on the eighth of Feb. Now that's shaping up to be a genuinely macro moving event. So, when I woke up to headlines about a landslide win for the LDP party and then looked at the market reaction, that settled it.

I should say we're recording this on the 9th of February at 10:30 a.m. London time. So, by the time you listen to this, quite a lot may have changed, but it's brilliant to be joined by Yun Zang, our Head of Macro Trading for Asia Pacific. Yun, thanks a lot for joining us. And how's today been for you?

Yun

Thanks, Patrick, for having me. What an interesting day in the Asia session. I'm very happy to talk about what happened in Japan today.

Patrick

Great. Well, let's get into it. And maybe start with the obvious one. Why should someone outside of Japan care about this Japanese election?

Yun

I think there are three main points. One is Japan is the fourth largest economy in the world. Second, Japan is the origin of so-called carry trade, where you borrow in low yielding currency and invest in high yielding currency. If FX doesn’t move or moves less than forward implied, you will make money. In global markets, carry trade is the basic strategy traders go back to time after time. The third point is government bonds. In recent years, post-Covid, there is a lot of tension building up in long and bond market where investors have concerns on the fiscal situation of many countries. When we see 30-year GDP reached 3.88% on 20th of January, that is certainly the highest I have seen in my whole career. It brought nervousness across the globe. Higher government bond yields mean higher borrowing cost, which is not healthy for central banks’ balance sheets.

Patrick

And it has a ripple effect through the wider global market, of course. So, Japan is a major source of global capital. As you say, it's a key funding currency. It’s also got a huge consumer market. So, with that in mind, can you walk us through the election results? What happened? How are the markets reacting?

Yun

Certainly, Takaichi’s LDP party secured 316 seats in the lower house, which is a supermajority that we have not seen post-war in Japan.

Let me remind you, the lower house has more power than the upper house. It can appoint Prime Minister. It can override upper house decisions. It can even pass the national budget by itself. Leading up to election on Friday, there were already a lot of media reports that Takaichi might secure a supermajority due to her very high personal approval rating. So, the final result is not really a surprise to anyone.

The so-called Takaichi trade is a long equity, short JPY as a currency, and built steepener in the JPY rates curve. Without going into too much details, the long equity part did materialise, but I'm afraid the FX and rates didn't really work today in Asia session.

Patrick

Interesting, so the LDP landslide after the election wasn't a surprise. But what is a surprise is how the market's reacting today and I want to touch on that in a moment. But it does set up questions about households and policies first. So, let's get into that. What are the big promises that Takaichi made in terms of taxes and the cost of living? And what's realistically coming in your view?

Yun

Before we talk about tax and cost of living, I want to briefly mention what happened to Japan inflation since 1990s. The asset bubble burst in Japan. There is a long period of low interest rate policy across decades. Japanese households are not used to see rising of prices, so the social unrest is real after rapid inflation pick up.

A consumption tax cut is a very efficient election tool, in my view, and which Takaichi used. However, what is the reality? I did argue before in late 2024, that why I thought China's situation was not as bad as people thought. One of the main reasons was that high household savings versus GDP. But the number of household savings versus GDP is actually higher in Japan. Furthermore, most of the inflation is imported due to weak yen, which means there are other ways to lower cost of living.

Of course, I'm not saying the new government will not follow through. If they do, given the legislation process and operational readiness, we are looking at 5 to 6 months before households can actually feel it.

Patrick

Interesting. So clearly fiscal choices will feed directly into monetary policy. So, let's just pivot and talk about the Bank of Japan, the BOJ. You mentioned a weaker yen. And we know that the BOJ is watching that closely. What's the next move for the BOJ? Do they stay patient or does this push them to maybe act a little sooner.

Yun

We talk a lot about Fed independence, but we rarely talk about BOJ independence. As the markets know, Japan's Prime Minister can nominate BOJ governor and has large influence over BOJ. After her win in the lower house, she can easily delay BOJ hikes now. Will she do it though? I think that depends on her overall big picture. Fundamentally through responsible fiscal expansion. She would like to improve productivity in an aging society and bring higher earnings to improve wages to fight inflation. We live in reality and need to balance long term goals versus short term requirements.

What could be an alternative of a hike? Maybe a continued bull market in equities. Japanese household has roughly 50% of their assets in financial assets, including stocks. If the wealth factor continues, could it help dealing with the cost-of-living issue? That might not work in a country like the US where wealth equality is bad, but in Japan, which has the lowest Gini coefficient in the top 20 largest economies in the world, I think you might have some chances. A delayed hike will buy some time for SMEs who otherwise will be the biggest losers under current policy.

Patrick

So, if policy stays gradual, FX will become the release valve. Let's talk about intervention risk. What are markets pricing here?  

Yun

I spend a lot of time talking to our investors and clients. 160, that is $1 to ¥160, is a very important figure in many clients’ minds. The intervention risk is real. While Takaichi may not be so keen to hike rates, she might be quite willing to intervene to release unrealised profits from BOJ's foreign reserve to fund potential food tax cuts. This is an elegant solution to current issues. FT had an article talking about the Ministry of Finance as the biggest carry trader, who has made more than $200 billion cumulative P&L in the past 30 years. It is more than enough to cover the $60 billion cost for food tax cut for two years.

Patrick

Interesting. So, lots to watch there as well. Bringing it back to real world impacts. Who stands to win from this policy mix? We talked a lot about households, but what about other businesses and how are they positioned?

Yun

Obviously, current weaker yen will help exporters to fight against tariffs. Well, JPY as a currency will eventually strengthen due to higher growth rate. Importers will benefit. I think service sector will benefit from here onwards, particularly banking sector with higher yields or higher growth rates. Banks net interest margin will improve. Other areas which have a low productivity, such as retail, health care, business services will benefit from AI investments.

Patrick

Interesting. This is probably the first podcast where AI came up towards the end of the podcast. But looking ahead, what should we be watching over the next 90 days? What are the key milestones that the markets are focused on from here on in?

Yun

The immediate event will be around 18^th of February, where a special Diet session is expected, it will formally confirm the Prime Minister and begin parliamentary business, such as fiscal deliberations. Although a draft budget was approved by the cabinet at the end of 2025, the Diet will need to pass the detailed budget bill and tax measures before the start of fiscal year on 1st of April.

Cabinet posts need to be confirmed, although through all the current reports, Takaichi intends to keep the current cabinet as it is so she can get on with budget and other matters.

The next BOJ meeting is scheduled 18 to 19th of March. We do not expect a rate hike there is decent possibility, though, priced in for the April meeting.

Patrick

So, lots of catalysts and lots to look forward to. Stepping back a bit, where do you see markets becoming most sensitive now? Is it currency, rates, bond market, or risk sentiment more broadly?

Yun

It's all about bond market. The bond market is still the basics that I return to. It is not just for traders. It touches every aspect of a country. It is hard to ignore it. I think we have seen the peak of 30-year JGB yields. As my Research colleagues Shin and Baba-san point out, there is enough Taikaichi premium built in in the JGB market. The confidence has returned to Japan market.

Patrick

On that positive note, let's think about how Japan stacks up versus say, China. Yeah, I know you turned bullish on China before the rally last year. How do you think about Japan versus China right now?

Yun

I do agree with the equity element of the Takaichi trade, but I do not agree with the other two. As I mentioned earlier, yen will strengthen, hence higher growth rate. China is in that camp too: higher equity and stronger currency. So, if you agree with these arguments, FX unhedged long equity play could work. Rates will be a lot more complicated. Big picture, I do feel back end Japanese government bond market has calmed down. A long end flattener could work. Front end will have more moving parts. Given how much hike is priced in, maybe a steepener makes more sense.

Patrick

Great Yun. Lots to think about there. Thanks a lot for joining me on the podcast today.

Yun

Thanks, Patrick, for having me. What a long, exciting day.

Patrick

So, as markets digest this landslide victory, a few things stand out from our conversation with Yun.

For Japan the LDP victory brings a stronger mandate. Bond markets appear to have stabilised, and confidence has returned to the Japanese market. Yet FX and rates didn't quite react as many expected today.

Globally, however, the election matters a lot because Japan sits at the crossroads of FX, rates and regional growth. And the big swing factor now is the Bank of Japan. If fiscal stimulus lifts inflation and forces a shift in policy, the yen will react and that will ripple through global markets.

So, lots to watch for. Thanks for listening to the Barclays Brief. Do hit subscribe and we'll be back next week.