DBJP ETF

The Yen hedge has not been in holders' favor lately as the currency has rallied. Importantly, the Japanese indices themselves are negatively correlated to the Yen as large cap stocks have large foreign markets, with automotive as an example. The generally export-led economy doesn't benefit massively from a stronger Yen, although domestically it might as the Yen declines have become quite extreme.

The Xtrackers MSCI Japan Hedged Equity ETF has outperformed the S&P 500 Index, returning 37% compared to the S&P 500's 26%. The depreciating Yen that has boosted DBJP returns may turn neutral or act as a headwind in the coming months, making further gains harder to come by. Japanese equity valuations are no longer cheap on an absolute basis, suggesting a period of consolidation for DBJP.

Xtrackers MSCI Japan Hedged Equity ETF is a Yen-hedged value-weighted ETF following the most representative possible index of the Japanese market. The Yen hedge is not very helpful anymore. While we aren't super confident that the BoJ will pivot, the Yen won't get cheaper than current levels. If the Yen appreciates, Japanese markets may not perform as well, but would at least give the consolation of FX gains on Yen denominated stock.

Japanese stocks have been on the hottest ride over the past several months, with the Nikkei 225 Index now breaching the 40,000 milestone for the first time.

Japan ETFs have been surging over the past year on several factors and beating the S&P 500.

The Yen is undervalued, and the Fed pivot supports its revaluation according to our macroeconomic prognosis. Concerns about economic uncertainty in the US will lead to a convergence of rates and a Yen resurgence despite still weak underlying inflation in Japan. On a fundamental basis, the Yen is almost 50% undervalued, and while we don't take too much stock in PPP-based analysis, we think everything points to continued climbs for the Yen.

Going long Japanese equities and short the yen has proven to be a winning trade. There's a new regime in place, however, and the winds may not be as favorable to a hedged Japan equity strategy over the next decade. Valuations also screen richly after a standout 2023, potentially limiting future equity upside and in Xtrackers MSCI Japan Hedged Equity ETF.

DBJP is dominated by other Japan ETFs with lower expense ratios and the same allocations. The sector allocations of DBJP, particularly financials and consumer discretionary, are good exposures due to credit availability and the advantage of a devalued Yen. Despite recent spikes in fund flows into Japan, international allocators are still underweight Japan, and there are benefits to demographic declines in relation to strict labor market laws.

Currency-hedged Japan ETFs are outperforming their unhedged peers as the surging U.S. dollar is knocking down the returns of international investments.