Is Japan facing another false dawn?

Japan-Mount-Fuji-Pagoda-700x450.jpgWith the prospect of potentially more quantitative easing from Japan, following a series of massive reforms from the country, is investing in Japan paying off?

The Bank of Japan decided not to increase its ¥80trn annual easing programme following a policy meeting today, but further hikes are not off the cards as the country tries to enact a widespread policy of change to boost the economy.

“The key thing that is still possible is the likelihood that Japan announces further QE, which will be a potential leg up for another weakness in currency. We still see that as an area where we will get an initial reaction and then ongoing impacts on that for the rest of year, such as benefit to exporters initially of a weaker currency will be good,” says Adrian Lowcock, head of investing at Axa Wealth.

Stephen Jones, CIO at Kames Capital, agrees that there is still value in Japan. “We continue to believe that the Bank of Japan will add further stimulus to the Japanese economy. Global growth may well weaken amid China’s slowdown, but with assets like cash still yielding next to nothing, equities offer an opportunity for investors.”

A large amount of investor interest depends on the success of Abe’s third arrow to turnaround the country, which has seen a number of false starts and reattempts. This particular arrow centres on large shifts for the entire country, including encouraging more women back into the workforce and more students to be educated overseas.

It also attempts to shift the corporate culture in Japan, making companies more interested in meeting shareholder expectations, returning cash to investors and boosting innovation. Other parts of the plan include encouraging more foreign investment in the country and boosting the number of trade agreements.

However, the revolution is slow to come. There have been signs of companies opening up to shareholders though. Corinna Arnold, manager of RWC’s Japan Stewardship fund, which takes an activist approach to investing in Japanese equities, says she has seen a shift in companies, with many being at least willing to grant meetings with shareholders and consider plans for business changes. But, she admits, this is a long way from activist investing in the US or the UK.


There are signs of a shift, says Bill McQuaker, co-head of multi-asset at Henderson Global Investors. “Away from the politics, earnings forecasts are rising, price-to-earnings ratios do not look stretched, balance sheets are comparatively strong by global standards, and domestic investors are rebalancing their portfolios for the first time in at least a generation.

“It is fair to say the region has been disappointing. There are reasons for investors to be hopeful, however, with the recent Trans-Pacific Partnership agreement between the country and 11 others – including the US and Australia – a definite plus,” says Jones.

The China market falls in the summer were another alarm bell for investors in Japan, as they waited to see the impact of the falls on the country. However, Ernst Glanzmann, investment manager at GAM, believes markets have overpriced a large hit to Japan companies and that fears may be misplaced. “All eyes will be on the impact of China’s slowdown on Japanese corporates but we believe the market has overreacted to this.

“It has been the land of false dawns for 20 to 30 years, but there is a fundamental change in what is going on in Japan.”

A re-rating should follow for stocks that have suffered from overly pessimistic misconceptions,” he says.

In particular, Glanzmann thinks electronics companies, IT firms and companies exposed to the pick-up in tourism in Japan will benefit in the near term.

Regardless of the stuttering start for the revolution of reforms, investor interest is picking up in the country.

Data from Cofunds for September shows Japan was the ninth most popular sector for the month. Two Japan-focused funds also made the top 10 for fund sales in the month, namely the Schroder Tokyo Fund as the second most popular fund and the JOHCM Japan Fund.

Data from the Investment Association shows a pick-up in the Japan sector sales. The third quarter of this year saw £320m of sales, slightly down from £334m in the second quarter and £261m in the first quarter. This is in contrast to £15m of net outflows for Q4 last year.

However, the Japanese Smaller Companies sector is still charting muted flows, with September alone seeing £21m of assets leave the sector. “It is definitely becoming more mainstream. There seems to be a consensus view this time things are different. It has been the land of false dawns for 20 to 30 years, but there is a fundamental change in what is going on in Japan,” says Lowcock.


But selecting a Japan-focused fund is no easy task. Over three and five years the worst-performing funds in the IA Japan sector have returned positive results. However, the best-performing fund over three years, Lindsell Train Japanese Equity, has returned 121.4 per cent, while the worst-performing fund over the same time period, which is equity focused Principal GIF Japanese Equity, has delivered just 42 per cent.

Stable performers over both three and five years include Legg Mason IF Japan Equity fund, which is top at five years and second to Lindsell Train over three years.

Also in the top five performers over both time periods are Neptune Japan Opportunities and M&G Japan, which delivered 83.8 per cent and 69.4 per cent respectively over three years.

“Areas that look expensive in Japan are defensive names, such as utilities and more economically-sensitive cyclical areas. The consumer stocks have begun to look more attractive in the recent market sell-off. With the weaker currency export areas tend to be more consumer-driven, valuations in those areas look more attractive,” says Lowcock.

For this reason he prefers the GLG Japan Core Alpha fund, run by Stephen Harker, as he takes a more contrarian view and hunts for deep value. Lowcock also likes the Schroder Tokyo fund, run by Andrew Rose, who takes a stock-specific look at small and mid-cap stocks, and is poised to win from any return to confidence in the domestic Japan market, he says.

Ultimately though investors should be cautious, says Lowcock. “You have to be careful. Investors are still cautious of the potential for more volatility. Japan is sensitive to global growth and there is still a high risk that the policy doesn’t work and confidence can evaporate very quickly,” he says. “We have seen that happen a couple of times.”