Warren Buffett once said that he only focuses on the things that are important and that he can know, and currency fluctuations are not one of them. They may be important, but they are unknowable.
He’s been making a killing lately with his Japan investments, and so have others who have followed his lead. It’s a lesson in diversification. Japanese stocks have soared, with the yen-denominated MSCI Japan Index up 87% over the past five years, outperforming even the mighty S&P 500 (^GSPC).
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But U.S. investors would have made much less if they had simply put their money into the largest Japan-focused exchange-traded fund: As the yen lost a third of its value against the dollar over the past five years, the iShares MSCI Japan ETF (EWJ) generated a total return of just 36%.
Buffett, who first disclosed his investments in Japan in August 2020, has been hedging his currency risk by borrowing in yen at low interest rates. Most recently, Buffett’s flagship investment, Berkshire Hathaway (BRK-A), issued $1.6 billion in yen-denominated bonds in April, with interest rates ranging from 0.97% to 2.5%. The shares of five Japanese trading companies owned by Berkshire have increased nearly fourfold on average since August 2020. In dollar terms, they are up only 150%, still a respectable but significantly lower increase.
Of course, currency fluctuations don’t happen in a vacuum. For an export powerhouse like Japan, they can be good or bad. But the conventional wisdom that a weaker yen is good for Japanese stocks has been crumbling lately. Even as the yen fell 6% against the dollar to its lowest level in more than 30 years, the TOPIX rose just 1.5% in the last quarter.
Even shares of export companies such as Toyota, which should benefit from a weaker yen, fell last quarter. A sharp weakening of the yen could reignite inflation, hurting real wage and consumption growth and forcing the Bank of Japan to raise interest rates sooner than usual.
For investors, the yen’s near-term future depends, like so much else, on the Federal Reserve. The interest rate differential between the U.S. and Japan has been a big factor in the yen’s weakness. Japan has slowly started to raise interest rates, but cuts across the Pacific have come slower than expected, fading hopes of a stronger yen.
Individual investors can’t borrow in Japanese yen like Buffett does, but they can get ETFs to hedge their money. iShares’ currency-hedged Japan ETF is up 31% over the past year, while the unhedged version is up 12%.
The factors that attracted savvy foreign investors like Buffett — improved corporate governance and shareholder returns — may continue to be a boon for Japanese stocks, but don’t ignore another aspect of his trading: that even Buffett won’t bet on things he doesn’t know.
Write to Jackie Wong at jacky.wong@wsj.com.
