Black Swan event could also impact Japan’s financials but also brings opportunities

In the past week we have seen what could be best described as a ‘Black Swan’ event engulfing financial firms, sending tremors through global capital markets. Although what we had initially thought to be isolated cases with bankruptcies of Silicon Valley Bank and Signature Bank, representing the second and third-largest bank failures in US history, they have spread panic across the entire banking industry worldwide.

In Europe, Credit Suisse, which has been in trouble for a while, sent more shockwaves with its warnings that the lender is in trouble and needed assistance, forcing the Swiss central bank to inject capital into the ailing lender. The rescue efforts have quickly led to engineer a merger with UBS over the weekend. We suspect the prospects of stronger banks being asked to rescue their weaker peers could add further concerns that perhaps no bank is safe from what is unravelling.

With a flight of funds from deposits which are earning almost nothing to safer money market funds that provide higher returns, notably accelerating in the past week, fears that lenders will be forced to realise losses by selling their treasury bond assets before they mature at par have also dented confidence in the sector. Moreover, prospects for banks cutting off loans, at least to less creditworthy corporations, is another major worry that could quickly spill over to the real economy.

In our market in Japan, the larger financial institutions look to be somewhat more insulated from the above developments, partly because BOJ has kept rates suppressed close to zero, and by doing so, it owns close to 60% of all JGBs. Moreover, Japan’s bank deposits tend to be far stickier. However, it is also likely that many of Japan’s financial institutions will see some losses related to their overseas investments, particularly in collateralized loan obligations asset class where Japanese banks have been fairly active participants.

Having said that, what is most interesting in the case of Japan is that with JGB yields having notably dropped in the past week, with the ten-year yield now at 0.3% or 20 bps below the central bank’s ceiling, the turmoil has provided the incoming BOJ governor, Ueda-san, a unique opportunity to further widen the Yield Curve Control band and resume its lending operations to improve the functionality of Japan sovereign debt market without worrying about speculators attacking the market. Such a move could dramatically improve sentiment regarding Japan’s financial sector.

However, one firm in Japan which we think looks highly vulnerable to these recent external shocks is Softbank Group (9984), one of the world’s largest leveraged VC fund operators which has been in our short sell picks for over the last two years. With global start-ups generally likely to be facing a credit crunch as banks cautiously adopt a more restrictive lending stance, this could force them to resort to equity-linked financing which could put further pressure on their market values. With Softy reportedly having only marked down their unlisted investments by 20% or so thus far, more potential write-downs could further weigh on its NAV this year.