Takeaway: Japanese trends are being "lifted" by rumors of Helicopter QE but Brexit is still pushing AUM out the door.

  • Trends have marginally improved in Japan with rumors of a new bout of QE and a potential last ditch effort to "Helicopter" credit to consumers and spur the moribund Japanese economy. With that speculation running through the market early last week, the firm's hedged Japanese product took in over +$400 MM in new AUM in the past 5 days, as the Yen sold off -5%. The respite to the consistent uptrend in the currency and the slough off in AUM is allowing the DXJ to put in its best running month in 9 months and has boosted the stock out of a consistent downtrend for now.
  • Europe is still a slippery slope with Brexit adding a layer of complexity to the already weak economic landscape with fears of an Italian banking crisis now being intermixed with the unknown of how the U.K. will divorce itself from existing agreements with the E.U. The firm's hedged European product lost over -$250 million alone on Friday, with the tally from Brexit over the past 15 trading days now at -$1.2 billion in AUM (outflows and depreciation).
  • The wiggle higher in DXJ AUM has helped the stock on a short term basis but we remain bearish on the concentration risk to the firm on these 2 products which total 45% of AUM (especially with the ongoing weakness and concern in Europe which is impacting HEDJ). Other fundamental issues include the consistent underperformance of the firm's smart beta products compared to local benchmarks and also that over a broader cycle that long currency exposure tends to stabilize returns for foreign investors and the currency hedges at DXJ and HEDJ have done nothing but nullify Euro and Yen gains all year. The stock still trades well over 30x earnings and will report quarterly results next Friday with a likely $0.06 per share earnings print. With an $0.08 quarterly dividend currently, management will need to either cost cuts, restrike the dividend policy, or grow out of the current weak trends in its main products. We see fair value at $5-$7 per share or ~20x a $0.28 estimate for 2017 (under a scenario where DXJ and HEDJ stabilize but the firm doesn't grow). Our bear case scenario is that the firm breaks even at $20 billion in AUM and the stock is worth $2 per share.

The rumors of a "Helicopter" bout of QE in Japan finally took the rally out of the Yen last week with the Japanese currency depreciating -5%. This helped DXJ AUM by over +$400 MM with the product working on its best month in 9. The downtrend in DXJ AUM is still substantially lower however:

WisdomTree (WETF) | Helicopter Helping...Brexit Hurting - Chart 1

The European hedged product is now discounting another unknown with Brexit fears running through the product the past 3 weeks. The HEDJ lost over $250 MM on Friday (July 15th) alone with the total tally on the fund's AUM at -$1.2 billion since the U.K. referendum to leave the E.U.

WisdomTree (WETF) | Helicopter Helping...Brexit Hurting - Chart 2

Both funds are highly responsive to the direction of their respective foreign currencies and the Yen's rally this year has been dramatic with a stubbornly high Euro also problematic for the firm's currency hedges:

WisdomTree (WETF) | Helicopter Helping...Brexit Hurting - Chart 3

WisdomTree (WETF) | Helicopter Helping...Brexit Hurting - Chart 4

One of our main contentions with the story is that outside of near term currency weakness (the past 3 years), that there are significant periods of time where long currency exposure significantly benefits foreign investors:

WisdomTree (WETF) | Helicopter Helping...Brexit Hurting - Chart 5

WisdomTree (WETF) | Helicopter Helping...Brexit Hurting - Chart 6

In addition, the firm's "smart beta" methodology or fundamentally indexing via dividend payouts has yet to prove that it can "outperform" established market cap weighted benchmarks:

WisdomTree (WETF) | Helicopter Helping...Brexit Hurting - Chart 7

WisdomTree (WETF) | Helicopter Helping...Brexit Hurting - Chart 8

Shares remain wildly expensive and still have very high embedded growth despite AUM in decline. The firm also has a capital management issue at hand, currently paying an $0.08 per share common dividend while currently at a $0.06-0.07 per share earnings run rate. WETF stock sits as a Best Idea Short with fair value at $5-7 (and a $2 valuation in a breakeven scenario).

WisdomTree (WETF) | Helicopter Helping...Brexit Hurting - Chart 9

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Please let us know of any questions,

Jonathan Casteleyn, CFA, CMT 

 

 

 Joshua Steiner, CFA

 

 

Patrick Staudt, CFA