Warren Buffett’s Japan bet is a ‘clear arbitrage’ that cuts currency risks

Warren Buffett is known to have a penchant for low-valuation, high-yield investments. In the past, the Sage of Omaha had invested in railway stocks when they were inexpensively valued. Buffett’s investment strategy in Japan lately involves borrowing cheap locally and investing those funds in equity assets that offer high dividend yield.

First, Berkshire Hathaway issued yen-denominated bonds worth about $4 billion in September 2019, causing some people to speculate at the time that Buffet had spotted a takeover opportunity.

The firm added to this by issuing bonds worth $2 billion earlier this year. In all, it has yen-denominated bonds worth 625.5 billion yen outstanding.

It has invested an almost equal amount in five Japanese trading houses, known as sogo shosha, making him one of the largest shareholders in Mitsubishi Corp., Mitsui and Co., Itochu Corp., Sumitomo Corp., and Marubeni Corp.

The big five general trading companies are decades-old, quoting at substantially inexpensive valuations, analysts said. At the same time, the borrowings last year were at coupons ranging from 0.17% to 1.1%, according to Bloomberg.

“Warren Buffett’s getting a clear arbitrage and it does not run any currency risk. He bought five trading houses in Japan at a dividend yield of more than 2-6%. While the borrowings are in yen, the exposure is in yen too. The borrowing is long term. It is not that they have to repay money anytime soon,” said Rajeev Thakkar, chief investment officer and director, PPFAS Mutual Fund.

Borrowing in yen is a relatively new strategy for Buffett. As borrowing rates have fallen significantly during the pandemic, it’s clear that Buffett believes that rates are now extremely low.

“Assuming he gets a spread of 3-4%, these stocks may have to fall by more than 50% for him to lose money on these investments. Buffett will hold these companies as valuations are low and yields are high. These are robust Japanese companies and if they can unlock value by buybacks or nominal profit growth, it adds to returns,” said Thakkar.

Berkshire Hathaway has much of its own money and liquid assets, over $150 billion, all in dollars. Converting that to yen to buy Japanese assets would expose the firm to a currency risk, which could impact returns on the firm’s Japanese investments.

Buffett is known for investing in companies for decades and this is reflected in the tenure of the borrowing, which goes up to as high as 40 years, though it includes debt maturing in 3-5 years as well. Still, it’s not a strategy that’s easy for everyone to emulate. Buffett’s huge balance sheet and Berkshire’s strong liquidity position render it easier for him to go for these cross-border deals than others.