This article was originally published on ETFTrends.com.
While the rest of the developed economies are looking at tighter monetary policies after years of growth, the Bank of Japan is sticking to its ultra-easy policy. Consequently, investors interested in Japan may consider currency-hedged exchange traded funds to diminish potential currency risks with diverging global central bank policies.
The Federal Reserve hiked interest rates for the second time this year on Wednesday and is looking at two more rate hikes later this year while the European Central Bank on Thursday outlined plans to wind down its bond-purchasing program by the end of the year. On the other hand, the BOJ decided to maintain its loose monetary policy Friday, the Wall Street Journal reported.
“It is appropriate for Japan to patiently continue current monetary easing,” Gov. Haruhiko Kuroda said at a news conference. “The divergence of monetary policies reflects different economic and price conditions in each country.”
Japan is still struggling with low inflation, with the country's core consumer price index, which excludes fresh food prices, up 0.7% in April year-over-year after decelerating for two consecutive months. The BOJ has maintained at 2% target.
The BOJ will stick to its 10-year yield target around zero and its short-term deposit rate at minus 0.1%. The government is also keeping to its pledge to purchase government bonds at an annual rate of ¥80 trillion, or $725 billion.
Looking Ahead for Japan Investing
Looking ahead, analysts also expect the economy to gain momentum in the current quarter after shrinking at an annual pace of 0.6% in the first three months of the year, its first contraction in nine quarters.
Given Japan's loose monetary policy and the Federal Reserve's higher rate outlook ahead, the U.S. dollar may continue to appreciate against the Japanese yen. Consequently, investors interested in gaining exposure to the Japanese equity market should carefully consider foreign exchange risks.
The depreciating JPY has allowed currency-hedged Japan ETFs to outperform their non-hedged peers. For instance, the WisdomTree Japan Hedged Equity Fund (DXJ) , iShares Currency Hedged MSCI Japan ETF (HEWJ) and Deutsche X-trackers MSCI Japan Hedged Equity ETF (DBJP) have been go-to options to access Japanese equities markets while hedging against foreign exchange risks. A weaker yen means a lower USD-denominated return. Currency hedged ETF strategies included currency swaps to diminish the negative effects of the weaker local currency. However, potential investors should be aware that if the trends reverse or the yen appreciates against the greenback, these hedged strategies may underperform non-hedged funds.
For more information on the Japanese markets, visit our Japan category.
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