TheChek News Flow

Monetary Policy in Japan Has a New Problem: Amazon

Japan’s economy is expanding but inflation is still weak, partly thanks to price competition from e-commerce companies

TOKYO—Japan thought it was on track to beat deflation. Then came the Amazon effect.

The country’s retailers have been cutting prices in response to the rise of online rivals like Amazon.com Inc., disrupting what had seemed like perfect conditions for Japan to get the stable dose of inflation it has long been looking for.

In part as a result, Japan’s central bank is likely to lower its price forecast for the current financial year at its policy meeting on Thursday, said people familiar with its thinking. That reflects continued resistance to price rises, despite Japan’s longest economic expansion in 11 years and its tightest labor market in decades. The Bank of Japan is also likely to raise its view on the economy while keeping its policy settings on hold, the people said.

Japan isn’t alone in its surprise at the slow response of prices to improved economic strength. Policy makers, economists and central bankers in the U.S. and Europe are also scratching their heads about why prices around the world can move so little while economic growth gathers momentum—a factor that usually drives inflation.

While BOJ officials continue to refer to a number of factors that are holding back price gains, e-commerce is now among them, people familiar with their thinking said.

Aeon Co. , one of Japan’s largest retailers, said e-commerce has made competition more severe, especially when consumers remain budget-minded. Aeon, which operates Wal-Mart -like superstores that sell food and general merchandise, cut prices on milk, shampoo and more than 250 other products in April and is planning to do so again in August.

Aeon President Motoya Okada said in April that consumer trends, including the low prices offered by internet retailers, left Japan unable to return to inflation after nearly 20 years in which prices have often been in decline.

“The end of deflation was a great illusion,” Mr. Okada said.

E-commerce in Japan still accounts for less than 6% of retail sales, but its influence on price-setting may be much larger because e-commerce sales keep growing 8% to 10% a year, while overall retail sales are roughly flat. E-commerce makes up about 8.5% of U.S. retail sales.

Japan was the third-largest global market for Amazon.com Inc. in 2016 after the U.S. and Germany, accounting for sales of nearly $11 billion, while some local websites offering cut-rate fashion such as Zozotown are also growing fast.

“Price competition between e-commerce companies like Amazon and brick-and-mortar shops has become fierce in the U.S. and is beginning to turn that way in Japan,” said Izuru Kato, president of Totan Research Co. “It isn’t so simple that the BOJ can spur inflation by just easing monetary policy.”

Amazon representatives didn’t respond to requests for comment.

While consumers may welcome a better deal on shampoo, the BOJ and other central banks have long been concerned that broad overall price declines can hurt an economy by fostering a negative cycle of low corporate investment, low wage growth and general lack of vitality. The BOJ has targeted inflation of 2%, and it has pumped the equivalent of hundreds of billions of dollars into the economy each year through purchasing government bonds and other assets.

In the past, the central bank blamed sliding oil prices for its failure to hit the target. Recently, oil prices have stabilized, and Japan’s price index edged into positive territory this year. Still, the core inflation rate in May—covering all prices except for fresh food—was just 0.4%.

BOJ officials looking for explanations cite the difficulty of changing the common view among Japanese consumers that prices don’t go up. One person close to the central bank’s policy makers said Amazon was helping entrench that view further.

The BOJ predicted in April that core consumer prices would increase 1.4% in the year ending March 2018, but it is likely to reduce that estimate, said people familiar with its thinking. Some of those people said recent data suggest it will be hard for inflation to reach the 2% target by March 2019 as the BOJ has projected.

Another theory gaining ground at the BOJ is that Japanese companies are investing in automation to improve productivity and offset the higher costs of labor and raw materials. This could help them avoid pushing up the prices they charge customers.

Analysts have long said Japan’s heavily staffed service industries have plenty of room for more efficiencies. However, data so far don’t show major productivity gains in Japan.

Issue 186, July 2017

Zug-based trading giant Glencore is weighing its strategic options in the royalty market, Global Mining Observer reports.

The company's legal and corporate finance teams in London and Switzerland are working to create a new standalone royalty vehicle to go after royalty deals in copper, zinc, nickel and cobalt, according to separate sources in London and Canada directly involved in the process.

The vehicle would be pumped with royalties sitting in Glencore's portfolio, including a claim over the giant Antamina copper-zinc mine in Peru. Glencore also owns royalties over the Horne gold project in Quebec, the Red Chris copper mine in British Columbia, the El Pilar copper deposit in Mexico and the Komarovskoye gold mine in Kazakhstan, which Glencore sold last year, holding onto a royalty that rises with the gold price.

Glencore recently appointed Scotiabank to explore a sale of its large royalty package, Reuters reported in May. The process has attracted bids “well in excess of $300m”, according to banking sources. But Glencore's head office in Switzerland has flipped from selling-off assets to chasing acquisitions and is now working on a parallel proposal to create its own company modelled on gold royalty group Franco-Nevada, but with a focus on base metals.

Glencore has not pulled its sales process with Scotiabank and it remains unclear whether a royalty sale or spin-off is its preferred option, but the company is in discussions with pension funds over a cash injection into its proposed new vehicle. The company would be kept unlisted, but could float in London or Canada once it has rolled-up scale of over a billion dollars, according to sources familiar with Glencore's thinking.

Glencore's royalty package, which also includes a claim over the Highland Valley copper mine owned by Canada's Teck, has been bundled together from across Glencore's vast portfolio. In the 1990s, under former CEO Willy Strothotte, Glencore expanded from trading commodities into owning mines and has since turned over hundreds of mining assets, from nickel to cobalt. In 2012, it paid $31bn for its mining affiliate Xstrata, a company it helped to build through at least 40 takeovers of older firms, from Canadian nickel group Falconbridge to Australian miner MIM. As such, Glencore's inventory is stuffed with more than 50 royalties, many focused on copper-gold belts in Canada and South America.

“Very Profitable”

Several royalty groups have looked at Glencore's portfolio in recent months. It covers “very profitable mines” and is “heavily base metals weighted”, streaming group Wheaton Precious told Global Mining Observer last week. London-listed royalty group Anglo Pacific, which specialises in non-gold royalties, has held discussions with Glencore but is low down Glencore's list of preferred strategic options, according to banking sources.

If Glencore formally drops the possibility of a sale, its new vehicle would join a lengthening list of firms to recently break into the royalty space, from gold group Osisko to Toronto-based Triple Flag, which is backed by hedge fund Elliott. Pan American Silver, led by mining investor Ross Beaty, also recently spun-off a new royalty group, Maverix Metals, which has been on a run of deals in the last twelve months.

But Glencore would be the first group to roll into the royalty market with a huge portfolio of existing assets. It could bolster the portfolio further, according to sources involved, by writing new royalties over its own mines when it preps the vehicle for an IPO, jacking-up cash flow from Glencore's current multiple of 6 to 10 times to the multiple commanded by royalty players, closer to 30 times. Glencore's trading desks are meanwhile plugged into hundreds of metal producers and often invest in equity or debt to secure metal off-take, but could now add royalty components to future transactions.

Other top-tier mining firms are also toying with the buoyancy of the royalty market, which has closed over $20bn of deals in the last ten years. Rio Tinto recently agreed to sell its thermal coal business in Australia, but held onto a royalty over the mines that is linked to the coal price. Vancouver-based Goldcorp has also carved-out royalties in each of its recent deals.

Glencore's new royalty vehicle is “in the very latest stages” of being structured, according to sources involved. Franco-Nevada, Osisko and Triple Flag have all looked at parts of Glencore's royalty portfolio but could not be reached for comment. Glencore declined to comment.

Needham initiates coverage on Specialty Retail with a focus on the activewear, luxury, and jewelry sectors. Digital disruption is the big theme across the space, as cos confront declining store traffic and the accelerating shift toward online commerce. While the specialty retail envm't is transitioning, firm views some cos as better positioned than others, and there are still growth opportunities, mostly abroad. Firm's Buy-rated companies include lululemon Atheltica (LULU, price target $67) and Oxford Industries (OXM, price target $68)—companies with a highly visible pathway to sales and earnings growth—and Signet Jewelers (SIG, price target $69)—a company that is relatively Amazon proof with low expectations. Firm has Hold ratings on Nike (NKE) and Tiffany & Co. (TIF)—companies that appear near fully valued—and Under Armour (UAA) and Ralph Lauren (RL)—companies whose sales and margin outlook has become less clear

Initiating coverage on specialty retail: Digital disruption is accelerating

Newcomers Muscle Into Art Market’s High End

Auction sales for the first half of 2017 reflect an increasingly healthy market where newcomers are vying with veteran collectors for blue-chip art

Collectors spooked by last year’s economic and political tumult are filtering back to the big auction houses, where they are vying with an influx of newcomers for blue-chip art.

The resulting global market looks increasingly healthy, although categories such as rare books and Russian art are in less demand than hot commodities like contemporary and Asian works.

On Tuesday, London-based auction house Christie’s International offered further proof of the market’s strength when it said it sold £2.4 billion (roughly $3 billion) of art during the first half of 2017, up 14% in pounds from a year ago but flat when converted to U.S. dollars. Christie’s auctioned $2.8 billion in art, also up 14% from the first half of last year. Christie’s additionally sold $155.4 million worth of art in privately brokered deals.

Rival Sotheby’s , based in New York, said it auctioned $2.5 billion in art during the first half, up 8% from the year before. Both auction houses said the six-month totals represented sales through June 30. Sotheby’s is scheduled to release its consolidated sales, which include private art sales, next month.

Both houses had an easier time wrangling masterpieces to sell this season, with Christie’s selling 38 works for more than £10 million apiece, or $13 million, during the first half of the year, compared with 14 during the same period the year before. Christie’s also said it saw a 29% boost in the number of new collectors who paid seven figures or more for a single work of art, suggesting new buyers are muscling swiftly toward the upper reaches of the market.

Christie’s priciest work during the first half was Constantin Brancusi’s $57.4 million bronze head, “Sleeping Muse,” which sold in May to art adviser Tobias Meyer. Also in May, it also sold Cy Twombly’s abstract, “Leda and the Swan,” for $52.9 million. In June, it sold Vincent van Gogh’s 1889 “The Reaper (After Millet)” for $30.9 million.

Sotheby’s sold Jean-Michel Basquiat’s untitled turquoise painting of a skull to Japanese collector Yusaku Maezawa for $110.5 million in May, the most expensive painting auctioned during the first half of the year. The work also set a new auction record for a U.S. artist. Sotheby’s other hits included a $24 million Roy Lichtenstein 1995 portrait of a “Nude Sunbathing” and a 59.60-carat oval pink diamond. The gem sold to Hong Kong jeweler Chow Tai Fook for $71.2 million, a record for a diamond at auction.

Collectors are showing renewed confidence by taking home a higher-than-usual percentage of the goods on offer at both houses. Typically, an auction is considered successful if at least 80% of the offerings find buyers. This spring, Christie’s said it found buyers for 81% of its goods across the board, compared with a 79% sell-through rate for the first half of 2016. Sotheby’s said it found takers for a robust 90% of its offerings in its $151.5 million jewelry sale in Geneva in May.

Both houses continue to persuade collectors to bid online, with Christie’s conducting 35 online-only sales during the first half of the year. The web auctions were led by a $3 million sale of American art in May that drew 14,000 viewers. Chief Executive Guillaume Cerutti said 44% of those viewers were new to his company, making these online-only sales “a primary channel for recruiting new clients.”

Among the categories, Christie’s $770 million in contemporary art exceeded Sotheby’s $767 million in new art sales for the first half. However, Christie’s lost some ground by canceling its traditional June sale of contemporary art in London. Mr. Cerutti said the decision “will pay off” if the staff can renew its efforts to sell more art in Hong Kong, its third art hub after New York and London.

Christie’s excelled in other areas. It said it sold $889 million worth of impressionist and modern art, American art, modern British art and Latin American art during the first six months of 2017. The sum represents a 43% jump from last year but is down from $1.3 billion two years ago. Sotheby’s didn’t give a combined total for these categories but said it had sold $701 million worth of impressionist and modern art alone in the first half of 2017, up 25% from a year ago.

Christie’s struggled in the categories of old master paintings, Russian art and 19th-century art, with combined sales of $81.2 million, down 37% from a year earlier. Yet its sales of Asian art were up 77% to $548.2 million during the first half, helped by a $263 million sale of Chinese art from Japan’s Fujita Museum in March that included Chen Rong’s $49 million scroll painting, “Six Dragons.” The house also sold a celadon-green Yongzheng amphora for $18 million in Hong Kong in May.

Collectors from the U.S. and Asia outspent all rivals this spring, each winning 35% of Christie’s offerings. Christie’s sold $1.5 billion worth of art in the U.S., up 39% from a year ago.

The art market tends to quiet down in late July and August but will get tested anew at sales this fall in London, Hong Kong and New York.