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2024.04.01 08:16
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The central bank cancels ETF purchases, how much longer can Japanese stocks rise?

Morgan Stanley believes that the unrealized gains of ETFs held by the Bank of Japan exceed 30 trillion yen, and it is unlikely to sell them on a large scale before 2025. It may be more realistic to sell them off at a moderate pace in the long term, and it would take about 300 years to sell off all these ETFs

At the monetary policy meeting in March, the Bank of Japan announced that it would stop buying stock ETFs. Now, the world is closely watching how the Bank of Japan plans to handle this huge amount of funds and when it will do so, which may become a key factor in determining the future trend of Japanese stocks.

On March 28, a team led by Morgan Stanley analyst Sho Nakazawa pointed out in a report that it is unlikely that the Bank of Japan will sell its holdings of ETFs on a large scale before 2025. It may be realistic to gradually sell to the market at a moderate pace in the long term, and it would take about 300 years to sell all these ETFs.

As part of its monetary easing policy, the Bank of Japan began buying Japanese stock ETFs in December 2010 when the Nikkei index was around 10,000 points. As of the end of February 2024, the Bank of Japan held ETFs with a market value of about 70 trillion yen (USD 474 billion) last month, almost equivalent to national tax revenue, representing about 7% of the Japanese stock market and becoming the largest shareholder.

Morgan Stanley believes that the breakeven point for the Bank of Japan's ETF holdings is around 1400 points on the TOPIX index. With the current TOPIX index already reaching around 2700 points, this means that the Bank of Japan's unrealized gains from ETFs exceed 30 trillion yen, and ETFs will also bring substantial dividend income. Morgan Stanley believes that there are three choices for the Bank of Japan to exit its ETF purchase plan: 1) directly sell on the secondary market; 2) the government sets up an institution to purchase ETFs held by the central bank; 3) sell directly to households/individuals at a discount, but these measures will take time to avoid significant impact on stock prices.

ETFs are a stable source of income for the Bank of Japan

Morgan Stanley points out that the Bank of Japan decided to terminate the purchase of ETFs and J-REITs at the March meeting. The current market value of ETFs held by the central bank is equivalent to 7% of the TOPIX benchmark market, and the significant unrealized gains brought by the stock market rise to the central bank's balance sheet. Currently, these ETFs also provide the Bank of Japan with a "stable source of income":

The Bank of Japan holds a large amount of ETFs, with a market value of 71.0 trillion yen. Currently, the Bank of Japan's ETF holdings have unrealized gains of 35.3 trillion yen. ETFs tracking the TOPIX index contributed 21.7 trillion yen, while ETFs tracking the Nikkei 225 index contributed 13.1 trillion yen.

These figures do not include J-REITs held by the Bank of Japan or ETFs specifically investing in material and human capital. If included, the scale of unrealized gains may be even larger Morgan Stanley believes that if there is further interest rate hikes in the future, leading to an increase in interest payment burden, it may affect the income of the Bank of Japan. The unrealized gains of ETFs can hedge the impact on income after the Bank of Japan raises interest rates:

Considering the significant impact of ETF equity management profits on overall income, and the potential setback to bank income from increased interest payment burden due to further interest rate hikes in the future, we expect banks not to immediately dispose of their ETFs.

Bank of Japan may continue to slowly sell ETFs

Morgan Stanley pointed out that there are various debates and opinions on how the Bank of Japan will exit ETFs, mainly including: (1) Transferring ETF holdings to third-party entities, including frozen entities, to remove ETFs from the Bank of Japan's balance sheet; (2) Long-term selling in the market; (3) Selling at a discount to households and citizens (based on cooperation between the government and the Bank of Japan).

Morgan Stanley bluntly stated that none of the above three methods will be realized in the short term. The Bank of Japan needs to coordinate with the government and the Ministry of Finance, carefully design a plan to ensure that it will not have a significant impact on the stock market:

Some views suggest that the Japanese government may propose transferring some of the ETFs held by the central bank to individuals to encourage residents to shift from savings to investments. However, this risk is unlikely to become a major issue in the short term because: (1) There is uncertainty in the design of the plan; (2) It may affect stock prices; (3) There may be opposition within the government.

Morgan Stanley believes that if the market expects the Bank of Japan to mainly sell ETFs in the market, the pressure may mainly target stocks with a high proportion held by the Bank of Japan. From the perspective of maintaining the financial health of Japanese banks and avoiding market disturbances, a method of selling to the market at a moderate pace in the long term may be realistic, and it will take about 300 years to sell all these ETFs:

If the Bank of Japan sells the ETFs it owns in 10 years, based on book value, it will exert selling pressure of nearly 4 trillion yen on the market each year. Which institutions can absorb this selling pressure from the Bank of Japan? The newly launched NISA plan may partially absorb this selling flow of stocks by households. According to forecasts, households may purchase nearly 10 trillion yen of stocks through NISA each year. In the past 10 years, the Bank of Japan has sold these ETFs at a speed (based on book value) of 1.2 trillion yen per year. If this selling speed is simply applied to the ETFs currently held by the Bank of Japan (total value of 37 trillion yen), then it will take about 300 years to sell all these ETFs (37 trillion yen / 1.2 trillion yen per year × 10 years = 308 years) From the situation where the Bank of Japan suspended the sale of stocks during the past economic downturn, it can be seen that the selling period of ETFs may be further extended due to economic conditions, with the risk of selling for a period even exceeding 300 years