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A rising tide lifts some (Japanese) boats

“Purchases [of Japanese ETFs] by the Bank of Japan have been increasing. Such large and longstanding purchases of stocks by a central bank are rare in the world. It must be important to examine the effects of purchases of ETFs by the central bank,” Hideki Hanaeda, and Toshio Serita observed in the preamble to their paper, Effects of Nikkei 225 ETFs on Stock Markets: Impacts of Purchases by Bank of Japan, that was presented at the 30th Australasian Finance and Banking Conference in 2017.

At the time of their presentation the BOJ was seven years into its ETF Purchasing Program, launched in early 4Q10 and expanded in 2013 as part of the “three arrows” policy launched by then Prime Minister Shinzo Abe to snap Japan out of the deflationary slowdown that started in 1991 and came to be known as the lost decades. It’s ETF holdings at the end of the year totaled some $175 billion with unrealized gains that added another $50 billion to the value of those holdings.

Four years later, the combined value of the BOJ’s domestic ETF holdings exceed $450 billion. It owns over 5% of the total market capitalization of the TOPIX index and, by some estimates, has acquired 70% of the total ETFs eligible under the terms of its current program. This makes it the largest shareholder, institutional or otherwise, in Japan, and the question of what this is doing to classic price, value and volatility metrics has taken on a new urgency.

In their paper, “A rising tide lifts some (Japanese) boats: The Bank of Japan’s ETF purchases and their impact on market signals for individual stocks”, four members of EPFR’s research team utilized the Informa company’s database of fund and stock level flows data to examine the degree to which the BOJ program is affecting Japanese stock prices – their research shows clearly that it does – and develop a factor that allows investors to compensate for, and profit from, the presence of a large, price insensitive buyer in Japan’s equity markets.

Their work added to the body of evidence that following the BoJ’s pattern and volume of ETF purchases creates an additional alpha source in the cross-section of Japanese stocks.

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