Buy Japan, says Hugh Hendry

Hedge fund manager Hugh Hendry is back in the news with the release of his latest quarterly letter. Hendry made a name and lots of money for himself by making some high-profile, contrarian investment calls early in his career.

At the height of the Chinese bull market, when it seemed the only economy impervious to the financial crisis, he famously filmed videos of empty apartment blocks and shopping centres in the country to support his bearish view on the economy.

But now Hendry, who manages the Eclectica Asset Management hedge fund, is feeling a lot more optimistic. In fact, he is bullish on three main asset classes: US consumer stocks, the US dollar and Japanese shares.

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When it comes to American consumer companies, Hendry likes those that make non-discretionary products ie, the stuff you pretty much can't do without. The reason, says the 44-year-old Hendry, is that investors don't have many other options.

"Consider the plight of a conservative investor: concerned about the risks to the global economy and hence cyclical equities; fearful of financial repression in Treasuries; trapped (possibly unfairly) by the prejudice of the ten-year bear market in US dollars; scared that governments may have to haircut his savings account in the bank; and now terrified by the sudden price collapse in gold."

Faced with that Hobson's choice, investors will invariably opt for "the safest, least volatile, most liquid consumer non-discretionary blue-chips on Wall Street, which provide a 3% dividend income payable in dollars."

Hendry's second big theme is the US dollar. His reasoning is pretty simple he is bullish on the American economy, thus expects the greenback to do well. Why is Hendry so optimistic about the US? It has "dealt with the overhang of bad debts from the housing bubble through a vicious house price correction and resulting bust and the recapitalisation of its banking system."

Those shocks may have been painful at the time, but they mean that the US now stands out from the "rest of the world".

Another painful but useful shock is that "wages have come down sharply relative to Asia", says Hendry. When added to the cheap gas from "the shale gas boom", it creates a lower cost-base that will allow "the US to reclaim market share within the global economy."

Finally Hendry turned his attention to Japan. Back in 2008, he bought an option that would pay out if Japan's Nikkei 225 index hit 40,000. Quite a big call given that the index hadn't been anywhere near that level for almost two decades. Hendry's optimism was guided by history.

"It had taken the Dow Jones Industrial Index 25 years to recover from the nominal price losses of the Great Crash of 1929 and make new price highs. The gold price had required 27 years to overcome its previous bubble high." Therefore, reasoned Hendry, Japan could well play out something similar. He believed that "social democracy's abhorrence of deflation could once more persuade them to elect public officials intent on repealing the nominal loss."

All Japan's economy needed was a severe shock, says Hendry. In 2011, it got two when the euro threatened to disintegrate and the catastrophic Fukushima earthquake struck. "Sure enough, as the economic conditions worsened last year, we saw a newly elected government fire the institution's two most senior decision makers and embark on a policy shift."

The resultant money printing and depreciation of the yen "is very bullish for Japanese assets", says Hendry.

So far this quarter, Hendry's performance has been poor by his standards. His fund returned just 3.1% in the first quarter compared to much bigger gains on major US and UK indices. However, if he's right on the above, his performance could be about to get a whole lot better.