The Japanese yen has fallen precipitously since mid-December, depreciating about 11% against the euro and 15% against the U.S. dollar. Many equity investors likely pay little attention to the day-to-day moves in the currency markets, but when a currency shifts in value as quickly as the yen, it can have detrimental effects on individual stocks and ETFs.
Ford Motor Company (NYSE:F), General Motors Company (NYSE:GM) and Caterpillar Inc. (NYSE:CAT) could all suffer at the hands of the falling yen, while country specific ETFs like iShares’ German and South Korean funds could be pressured as well.
Japan’s new government has pushed for a weak yen Japan has suffered under a deflationary economic environment for roughly two decades, as asset valuations have languished, never coming close to the levels seen in the late 1980s.
Newly elected Prime Minister Shinzo Abe believes that by pursuing aggressive monetary stimulus, Japan’s economy can escape the trap of deflation once and for all. This was the policy recommended by famed economist Milton Friedman in the late 1990s.
Because of its limited natural resources, Japan remains dependent on its exports of high tech goods -- electronics, automobiles, and machinery. These goods, when priced in a weaker yen, appear to be cheaper to foreign buyers, thus increasing their demand. This effect could work to the detriment of companies that compete against Japanese exporters.
The American auto renaissance might be short-lived General Motors Company (NYSE:GM) needed a bailout to survive the financial crisis, but the company now looks stronger than ever. Major investors like Warren Buffett and David Einhorn have gotten behind the automaker, and shares have rallied nearly 25% in the last six months.
For its part, Ford Motor Company (NYSE:F) was able to make it through the crisis without requiring a bailout. Its shares are up almost 30% in the last six months.
But both companies might see renewed competition from their Japanese rivals Honda, Toyota, Nissan and Subaru. A weaker yen could allow Japanese car companies to slash prices, stealing customers from domestic automakers. If the domestics opt to lower their own prices, it could compress margins. Either way, it wouldn’t be good for shareholders.
Caterpillar’s biggest rival is Japan’s Komatsu Caterpillar Inc. (NYSE:CAT) is the world’s largest maker of construction and mining equipment. But the second largest maker is Komatsu, a Japanese company.
Just like the Japanese automakers gaining an edge over their domestic rivals, Komatsu could gain an edge over Caterpillar. However, it is important to note that -- as Doug MacDougall of The Street points out -- Caterpillar is an active currency hedger, using futures contracts to mitigate its risk to fluctuations in the U.S. dollar.
Still, Komatsu getting a currency tailwind is certainly no help to Caterpillar.