BOJ to raise interest rates -- Good for overseas portfolio

July 12, 2006

On July 13, the Bank of Japan (BOJ) is expected to raise its core lending rate to .25%. -- the first time it has been much above zero in six years. This is a signal that the Bank is convinced that Japan’s economy is finally through with deflation, and is on a supportable road to recovery.

What It Means:
The BOJ has been battling deflation for 10 years, by increasing the amount of yen in the market to inflate its value. It has also purchased dollars via U.S.Treasury Bonds in an effort to not only battle deflation, but to keep the yen low relative to the dollar and help stimulate exports.

The Bank’s increase in its prime lending rate means that it will slowly start to cut back on its stimulation of the economy. This may also mean it will have less need to purchase Treasury Bonds, causing those yields to rise to attract other investors.

Action Steps:
The dollar has declined from 116 yen to 114 yen in the last two weeks. Hedge against further dollar decline by making sure you have adequate Japan-sector coverage in your overseas portfolio. Also move any portion of your portfolio that is in long-term bonds to money market funds. As always, consult with your financial planner to make sure these steps fit within your overall long-term asset allocation goals.

Source: Asahi Shimbun, “BOJ set to Raise Rates for the First Time in Six Years”, July 11, 2006; Federal Reserve of New York web site