EFTA01451170.pdf

9 January 2014 FX Blueprint: Thin end of the wedge External accounts highlight major vulnerability Relative base money growth will only point higher Japan's balance of payments still promises a brisk tailwind for yen weakness. The trade account has so • 140 deteriorated further, against most expectations of 20 • 130 stabilization. This is overwhelmingly an oil and gas story, though lackluster external shipments and 10 • 120 strengthening domestic demand are supplementary 110 issues. Net FDI outflows a similar-sized drag that is 0 only likely to get bigger even if the current account 100 gradually improves. That reflects a massive cost-of- -10 90 funding advantage spurring catch-up after Japanese -20 corporates have been risk averse and lagged their --Sava ITIO/1tY gen $0 (WroY. competitors in overseas expansion over the last two -30 70 decades. Overall it leaves Japan's 'narrow basic — VSOJPY OtHSI balance' in a pretty neutral state (middle chart). -40 60 00 01 02 03 04 OS 06 07 06 09 10 21 12 13 14 Cross-border portfolio flows have also had little impact Sante Ont.. ass, Eitorabrep &way IP on the yen thus far. Foreign equity inflows seem to have been largely hedged and new bond outflows were ;Narrow basis balance still under pressure limited to banks' offshore treasury activity. Henceforth, real money inflows to Japanese stocks should pick up, but will probably be balanced by growing Japanese outflows into foreign bonds and stocks - the latter encouraged by the new NISA scheme and more aggressive GPIF portfolio adjustment away from JGBS. That would leave the financial account's short-term loans balance as largest swing factor again. It captures carry trades and foreign asset hedging activity and dritt; 44.44464%, !t, responds to risk aversion and investor's perception of I MS Transfers , MEI FOI long-term interest rate differentials. It is several orders of magnitude larger than other BoP components and -20 I MIN income & services seen in stock terms retains scope for several hundred l —Sum (6mma) billion dollars of yen-selling unwinds (lower chart). -313 02 04 06 08 10 12 Abenomics abound Swot Ditec". Len, bovnterg &woo lP Conventional market tops are characterized by hubris in the mainstream which creates unquestioning acceptance of a 'new status quo.' By contrast, most Financial account's 'other investment balance' is key forecasts for Japanese asset prices strike us as intensely conservative as there is tremendous SO - he foreign asset 60 -Short-term loons skepticism that the country's long-term prospects have (WVtrll, cummuletve) fledge demand 70 really been changed by the advent of Abenomics. 20 —1.1931P7 (RHS, inverted) 80 Inevitably there will be bumps along the way, and 10 - 90 nobody should expect a free lunch. But until the basic 100 tenets of what remains a uniquely favorable backdrop o - 110 of fundamentals and potential flows are challenged or -10 - 120 overshadowed (geopolitics, anyone?), we'd encourage investors to replay last year's template as this year's . .end 130 basic game plan. We expect FX-equity correlations to on.•,:nd 140 Cativtradeextend‘ remain extraordinarily high and volatility to stay 150 elevated. Our end-2014 and 2015 USD/JPY forecasts of 96 98 00 02 04 06 08 10 12 14 115 and 120 are reiterated with upside risks. San Dourithe Bonk OWIT•1161. and lP For a convincing exposition of this assertion. see Kuroda's recent speech: James Malcolm, London, (+44)20754 50884 ID8ps.thyve.v bcises/flAnnouncementgkes,Soer 2013/01.3A413122.5 Taisuke Tanaka, Tokyo +87 (03)5156 671J ) 1 00 Page 6 Doutscho Bank AG/London CONFIDENTIAL - PURSUANT TO FED. R. CRIM. P. 6(e) DB-SDNY-0 107444 CONFIDENTIAL SDNY_GM_00253628 EFTA01451170