TOKYO The Nikkei stock average and the dollar skidded to lows on Thursday not seen since the day the Bank of Japan unveiled its massive monetary policy overhaul, as investors cut their long Japanese stocks and short yen positions.
In a chicken-egg scenario, weakening Japanese equities prices have pushed up the yen over the past two weeks, as foreign investors have unwound the hedges they put in place to shield themselves from a weaker yen when the currency was on the way down.
"It's not that easing led to higher stocks; it was expectations that raised stocks," said Koji Fukaya, chief executive officer and foreign-exchange strategist at FPG Securities Co. in Tokyo.
"There are a lot of people who had a trade in place that was for higher stocks, selling yen. Now they're just turning that around," he said.
The Nikkei ended down 6.4 percent at 12,445.38 on Thursday after dropping as low as 12,415.85 in morning trade. The intraday low brought it within about 50 points of its closing level on April 3, the day before the BOJ stunned investors with its plan to double the monetary base in two years to wrest the country out of deflation.
Some strategists and market participants had expected the BOJ's massive easing would send Japanese investors in search of higher yields abroad, adding to pressure on the yen.
But that allocation shift has not yet materialized. Finance ministry data on Thursday showed Japanese investors were net sellers of foreign bonds and stocks for the fourth consecutive week, as they continued to repatriate proceeds from overseas investments.
The dollar skidded as low as 93.75 yen on Thursday, also its lowest since April 4, down more than 2 percent on the day and well below its 4-1/2 year high of 103.74 yen struck on May 22.
That weaker yen helped lift shares of exporters, and contributed to the Nikkei's rise to a 5-1/2 year peak on May 23, the culmination of a rally of more than 80 percent from mid-November.
But then global macro funds started taking profits, against a backdrop of concerns over slowing China growth and rising bets that the U.S. Federal Reserve will begin to scale back its stimulus. Investors have also been disappointed with Prime Minister Shinzo Abe's "Abenomics" growth strategy to revive the world's third-largest economy.
The Nikkei has lost nearly 22 percent since hitting its multi-year high on May 23, entering bear market territory.
The 20-day rolling correlation between the dollar/yen and the Nikkei reached 0.869 on Thursday, down from a seven-week high of 0.925 hit on June 5. A reading of one would indicate exact correlation.
The Nikkei is still up 20 percent so far this year, but investors are warily eying the downside, which could threaten Abe's comprehensive plan to pull the country out of its persistent deflation and foster sustainable growth.
On Thursday, Japan's Chief Cabinet Secretary Yoshihide Suga said it was important to watch stock market movements calmly, seeking to defuse any concerns over the selloff.
But in the short term, the stock market faces a build-up of long positions placed during its ascent from mid-November up to the third week of May.
"We trace about one-third of that move. There are a lot people looking at this level around 12,500. If it goes below that, say 12,200, we could see a lot more people cutting their positions and getting out of their trades," said Hong Kong-based Guy Stear, Asian credit and equity strategist at Societe Generale.
In the longer term, Stear still believes the BOJ's balance sheet expansion will ultimately drive the yen lower against the dollar, and the Nikkei will move back to retest this year's highs around 16,000 in the third or fourth quarter.
"The question is, when do you get back in? I think there are a lot of people looking at it right now," Stear said.
(Additional reporting by Dominic Lau and Sophie Knight; Editing by Eric Meijer)