Posts Tagged ‘Japan’


Japan: Ein Update zur Investment Opportunität!

30. April 2014

Japan ist wieder an einem Punkt angekommen, an dem es sich mittelfristig rechnen dürfte im dortigen Aktienmarkt zu investieren! Seit Jahresanfang ist der Index Nikkei 225 deutlich zurückgekommen. Die fundamentalen Daten sind aber besser als in der Vergangenheit und die Bewertung niedriger als bei weniger aussichtsreichen Aktienmärkten.


Bitte lesen Sie den nachfolgenden Artikel:

Here is an article by SRIM about the current opportunity in Japanese equities which I can fully support:

The first quarter of the year has seen wholly unwelcome relative and absolute underperformance from Japanese equities (Chart 1). Our portfolio, in particular, has given up a sizeable fraction of last year’s gains. Japanese shares have now relinquished all of their relative gains versus global markets since the autumn of 2012. Within this, the greatest weakness has been in large cap shares, again to the detriment of our portfolio, whilst our strategic policy to hedge the yen has also proven to be an added headwind. The lack of easing by the Bank of Japan in anticipation of the increase in the consumption tax has certainly been a negative, but we find it hard to argue that much else has disappointed.


In a fundamental sense, we suggest that the arguments which we put forward in our investor note of Spring 2013 remain valid. Japanese profitability has recovered very sharply and continues to rise, and earnings expectations continue to improve. A glance at Chart 2 indicates that Japanese shares are far from expensive. P/E multiples in Japan are now substantially lower than in either the US or in Germany, which is unusual.


Charts 3 and 4 show that Japanese valuations have fallen markedly in the face of strong profits growth and accommodative monetary conditions, which is also unusual.


Part of the problem in Japanese equities arises from the evident lack of institutional depth in the market, a risk that was explicitly recognised in our letter last year. Specifically, we noted that in the light of ongoing very low interest rates, Japanese financial institutions were liability constrained from increasing their equity weightings. This implied that the marginal buyer and seller of Japanese shares was likely to be an overseas investor. Chart 5 shows the extent to which this has been true on the buy side. Unfortunately, we did not suspect that selling pressure would arise even as the S&P 500 trades within a shade of its record high.


A further part of the surprising weakness in Japanese shares has come from the unwinding of net long futures positions in both the Topix and Nikkei indices. A portion of these will have been speculative, unhedged positions. These are or were predominantly held by overseas speculators. However, Chart 6 shows the extent to which futures unwinds created net selling in the market, a risk that is now very substantially mitigated. In fact, looking at trading in individual shares, Chart 7 appears to indicate that short-sell ratios in the Japanese equity market are close to historical highs. Of course, these positions are highly vulnerable in the event of a rally in Japanese stocks. It certainly appears that the dominant portion of the selling in Japan has been from overseas investors who were disappointed by the relative performance of Japan and did not need to be invested there.



Perhaps we could and should have foreseen this or reacted to it more forcibly? It is true that neither the US dollar nor US bond yields have risen in this year, contrary to widely held (including our) expectations. However, our focus has been on the improvement in Japanese corporate profitability and governance.

The medium to longer-term investment arguments remain compelling, in our view, with few adjustments in the domestic risk profile. The arguments can be summarised as:

– Reflation

– Improved corporate profitability and governance

It is obvious that Japan’s political and monetary authorities are deeply committed to reflation. The Bank of Japan is doubling the size of its monetary base. The government has explicitly reaffirmed a 2% CPI target and implicitly targets negative real interest rates. The consequences of these policies are more or less predictable! Commercial banks have begun to expand their balance sheets. For the first time in twenty five years, Japan has the semblance of an upswing in the credit cycle. Wages are beginning to pick up and this is especially vivid when measured to include corporate bonuses. Condominium, house and land prices are recovering. Commercial rents appear, to us, to have made a decisive cyclical low. Anecdotal evidence of recovering jewellery and fashion sales and moderate labour shortages add to the picture of an economy escaping two decades of deflation. This is perhaps best captured by the steady rise in Japanese index-linked breakeven rates in Chart 8.


Investors worry that the increase in consumption taxes will, in some way, undermine the clear trend towards reflation. They argue by analogy with 1997, when higher taxes did indeed depress consumer demand and added to deflationary pressures. Yet the differences with the earlier period are stark. There was no monetary reflation in 1997 and other demand measures were exceptionally weak, especially property and land prices. Further, overseas demand was depressed in the aftermath of the Asian crisis.

Meanwhile, the evidence for improved corporate governance is gathering strength, almost on a weekly basis. In fiscal 2013, Japanese corporations will make record dividend payments, just one year into the economic recovery. Leading companies, such as Toyota, have raised payout ratios. Where Japan lags, especially in comparison with the US, is in the quantum of share buybacks. These remain below the levels recorded in 2006-08, for reasons that are unclear as Japanese companies are awash with cash (Topix companies have more than ¥70 trillion of net cash on their balance sheets). However, we find the forecasts by many sell side analysts (e.g. Goldman Sachs, Chart 9) indicating a major recovery in share buybacks entirely credible. Leading Japanese companies have announced substantial share buybacks in a manner totally at variance with past behaviour. Toyota is an excellent example, announcing a 2% share repurchase during March, following years of resistance. Mitsui and Co, a quintessentially ‘establishment’ Japanese trading company, announced a 2% buyback at the end of February. The reason Mitsui gave for the repurchase – the first ever by any Japanese trading company – was to improve its return on equity (RoE). And Mitsui borrowed money to facilitate the transaction! It is probable that these share purchases will act as a standard for other companies to emulate. Even the more state-owned companies, such as NTT, are following suit. NTT’s total payout ratio including buybacks exceeded 100% in FY 2013 and has the potential to do so again next year.


It is, in our view, hard to overestimate the importance of the introduction of the Nikkei 400 index in January this year. In a crucial departure, this index includes RoE and corporate governance indicators alongside market capitalisation as criteria for inclusion. Softbank is the largest stock in the index but several well-known large Japanese stocks (e.g. Panasonic, Daiwa Securities) are excluded on the grounds of poor or negligible profitability. One of the criteria for ‘good’ governance, which was codified in April last year, is the inclusion of independent directors. Chart 10 shows that this can lead to a meaningful improvement in RoE.


The most important future development in corporate governance will be the reform of Article 16 of the labour law which will clarify how and when labour redundancy is, ex-ante, permissible. This may have a dramatic impact on Japanese corporate behaviour, we understand. In addition, it is probable that Japan’s corporate cash pile exists partly in anticipation of large labour downsizing.

It appears to us that relatively few investors appreciate that Japanese corporate profitability is already at the highest levels since the late 1960s. Moreover, the 9.5% – 10% RoE likely to be seen in March 2014 results occurs with only one of the key drivers of profitability moving decisively in its favour. This is illustrated in Chart 11, which shows the marked increase in corporate profit margins. However, it is probable that leverage, asset turns and corporate tax burdens all improve over the next two years and we remain of the view that Japanese RoEs are headed towards 15%. In fact, this seemingly aggressive forecast will prove conservative if, as is likely, corporate tax rates are reduced to international levels.


Some investors argue that translation gains from yen weakness are the major (or only) reason for higher Japanese profits. In addition, they call into question the notion of paying higher multiples for ‘mere’ translation gains. Goldman Sachs, admittedly a bull, argues that the level of sales and margin are a far more important source of profit growth. This is illustrated in Goldman’s forecasts for profits growth this year, in Chart 12. In other words, transaction gains can be much more important than translation gains: We see this borne out at a practical level in many of our stock selections including Rohm, NGK Spark Plug and Bridgestone.


Investors in Japan will have heard scepticism about supply side reform, that the ‘third arrow’ is ephemeral. We believe that this reflects greater frustration with the market’s performance than the likely reality. From our perspective, Abenomics has created some solid supply side reforms, with more in the offing.

Japan has broadened the tax base, formulated rural and agricultural reform, supported the introduction of the Nikkei 400, proposed Government Pension Investment Fund (GPIF) reform and is introducing new economic zones (NEZs). The NEZs are particularly important as they cover approximately 38% of Japanese GNP and will be the experimental grounds for reforms in labour markets and in immigration.

2014 has seen a succession of investment themes reverse their relative performance of last year. Japan is the most conspicuous of these and in our opinion the least deserving. Improved profitability is a fact, not a speculation, and investors are paying little if anything for the optionality of supply side reform, sustained better corporate governance and tax reform. These three features would lift Japan’s RoEs to 15% and more, in all but the most recessionary of overseas conditions. Aside from temporary strength in the yen, the risks to investing in Japan focus mainly on the lack of domestic institutional support for equities. In the light of the enormous valuation differential in favour of domestic equities over JGBs and GPIF reform, this anomalous situation will not be sustained for Long.


Japan hat noch deutliches Potenzial

11. April 2013

Liebe LeserInnen,

warum ich so positiv für den japanischen Aktienmarkt bin, möchte ich anhand der zwei nachfolgenden Beiträge aufzeigen. Ich hoffe, ich kann Sie auch faszinieren.

Viel Spaß bei der Lektüre!

Ihr Robert v. Kap-herr

Sloane Robinson schreiben in ihrem Monatsreport für März 2013 folgendes (hier Auszüge):

…Despite the strong performance of the Japanese market over the past four months, the evidence is that the market continues to under-estimate the Japanese authorities’ agenda of monetary policy easing in order to „take on deflation with policies of a different dimension from those…implemented in the past“ (to quote Prime Minister Abe-san during November’s election campaign). Since our last monthly report there have been two significant developments. Firstly, in March the nominee Haruhiko Kuroda has been appointed as Bank of Japan Governor by the Upper and Lower Houses of Parliament. Secondly, post month end, his first monetary policy committee meeting led to the BoJ announcement of a regime change to „enter a new phase of monetary easing in terms of both quantity and quality“ (to quote the BoJ itself), with the aim of generating 2% positive CPI inflation within the next two years.

Our observations on this change are as follows. Firstly, the BOJ has doubled the monthly purchasing of JGBs to Y7tr, which is likely to represent monetisation of 70% and 120% of the gross and net JGB government issuances. Such a change in policy tools is profound. Secondly, targeting an increased duration of JGB holdings, to 6-8 years, brings the BoJ duration in line with that of the Fed’s. Thirdly, the pace of quantitative easing is noteworthy, given how the BoJ’s monetary easing has lagged that of other central banks. The BoJ balance sheet is expected to expand by 1% of GDP per month versus the Fed’s current pace of 0.5% of GDP. As a result the BoJ balance sheet should rise from 34% of GDP currently, to 45% by December 2013 and over 60% by December 2014. The Fed’s balance sheet is anticipated to be 25% of GDP by December 2013. It is plausible that the re-rating effect in the US equity market, aided by monetary easing, replicates itself in Japan. The current market trailing price/cashflow valuations are: S&P500 9.3x, Stoxx Euro 600 8.6x, Topix 6.4x. Fourthly, while the purchasing of JREITs will triple from Y10bn to Y30bn annually, there remains ample scope for buying more of these real assets, as the targeted BoJ holdings for year end 2013 is worth only 2% of the current market cap of the overall JREIT sector.

The latest annual land price data, disclosed in March, illustrates the investment possibilities from a new domestic credit cycle – national commercial land prices are bottoming out, but are doing so after falling to the level last seen in 1971.

Artikel auf

Fund managers call the end of Japan’s ‘lost decade’

Fund managers hail the Bank of Japan’s surprise monetary easing package.

By Matthew Jeynes | Published Apr 08, 2013

Managers have hailed the end of Japan’s ‘lost decade’ after the Bank of Japan (BoJ) last week unveiled a vast package of monetary easing measures.

The Bank’s governor Haruhiko Kuroda, who was put in place by Japan’s new prime minister Shinzo Abe last month, unveiled an unprecedented package that is expect to double the amount of money in circulation in Japan within two years.

This is aimed at finally lifting the economy out of its era of stubborn deflation, which has spanned almost two decades, and help it to achieve Mr Abe’s 2 per cent inflation target and generate growth in the economy.

“This is a significant moment for Japan and I think this is the end of the lost decade. It is a break with the past and the landscape is changing,” said Simon Callow, manager of the CF Miton Diversified Growth fund.

The multi-manager said he was set to boost his Japan weighting further on the back of the announcement, tipping Stephen Harker’s £1bn GLG Japan Core Alpha fund as the best bet.

The BoJ is set to buy up ¥50trn (£346bn) in Japanese government bonds per year, while also expanding its monetary base by ¥60-70trn per year and increasing its purchases of exchange-traded funds and real estate investment trusts.

Simon Edelsten, manager of the Artemis Global Select fund, agreed the ‘lost decade’ could be over, though he said the country “cannot get rid of its debt and its demographic issues overnight”.

“You do not get these moments in markets very often, and when you get them they are really worth paying attention to,” he said.

Gary Potter, co-manager of the F&C multi-manager funds, said he was usually bearish on Japan but this was the “best chance Japan has had for 20 years to boost the economy and markets”.

“People have been trashing Japan for so long but it looks like there is a real possibility of a transformational change in the market and in the perception of the market from global investors,” he said.

The BoJ’s announcement, which came 90 minutes before the Japanese stockmarket closed on April 4, pushed the Nikkei 225 index from a loss of 2 per cent on the day to a gain of 2 per cent. The index subsequently rose above 13,000 – a five-year high – as the yen fell by more than three per cent against the dollar.

The country’s 10-year government bond yield contracted from 0.55 per cent to 0.45 per cent, as the central bank’s commitment to buying up long duration bonds pushed down yields across the curve.

Scott Spencer, senior portfolio manager on the Aberdeen multi-manager team, said: “A lot of people have killed their careers calling a new dawn for Japan. It’s clearly a positive move but there is a long way to go.”


Chartanalyse für Japans Nikkei 225

11. April 2013

Liebe Leserinnen,

seit meiner Empfehlung in Japan zu investieren (siehe mein Blog vom 05.02.2013 beim Topix-Stand von 940 Indexpunkten) ist der japanische Topix-Index um 22% gestiegen auf heute 1.147 Punkte . Zuletzt hat sich der Kursanstieg explosionsartig entwickelt. Ich sehe ein erhöhtes Risiko für kurzfristige Rücksetzer am japanischen Aktienmarkt. Wie der Topix hat auch der Nikkei 225 Kursindex zuletzt einen rasanten Anstieg verzeichnet. Einen möglichen Kursrückgang hat auch HSBC Trinkaus in einer Chartanalyse für den Nikkei 225 heute herausgestellt.

Einen solchen Rückgang sollten Sie als Investor unbedingt für eine Erhöhung Ihrer Positionen in Japan oder als Einstiegszeitpunkt nutzen. Japan bleibt eine längerfristig sehr attraktive Investmentchance! Lesen Sie hierzu auch meine Blogs vom 05.04.2013 und vom 05.02.2013.

Beste Grüße

Robert v. Kap-herr

HSBC Trinkaus Chartanalyse des Nikkei 225

HSBC Trinkaus Chartanalyse des Nikkei 225

Wikipedia Definition: Der Nikkei 225 (jap. 日経225; 日経平均株価, nikkei heikin kabuka, dt. „Nikkei-Aktienpreis-Durchschnitt“) ist einer von mehreren Aktienindizes der Zeitung Nihon Keizai Shimbun zur Messung der Entwicklung der Tokioter Börse. Er basiert auf 225 ausgesuchten Aktienwerten.


Noch mehr Stimulus für Aktien in Japan

5. April 2013

From Bloomberg, 05.04.2013 00:30:25
The Bank of Japan’s new governor, Haruhiko Kuroda, didn’t disappoint investors with his announcement yesterday: He laid out plans for the biggest, fastest unconventional monetary stimulus any large economy has ever seen. By definition, financial markets never expect “shock and awe,” but they expect it least of all from the hyper- cautious BOJ. For once, for the first time anybody can recall, “shock and awe” is what they got.

To read the entire article, go to


Japans Börse profitiert vom schwachen Yen

25. Februar 2013

Japans Börse profitiert vom schwachen Yen

Topix +1,8 %, Nikkei 225 +2,4 %   –   Japan bleibt eine mittel- bis langfristig attraktive Investmentchance!

Siehe dazu meinen Blog zu Japan vom 05.02.2013!


Japan – langfristige Werthaltigkeit, mittelfristige Investmentchance

5. Februar 2013

Liebe LeserInnen,

in den letzten Tagen habe ich mich intensiv mit Japan als potenzieller Investmentchance beschäftigt und bin zu dem Schluss gekommen, dass es sich hierbei um eine auf die mittlere Sicht sehr attraktive Investitionsmöglichkeit handelt. Im Anhang füge ich einen sehr gut zu lesenden Artikel meines alten Arbeitgebers (Sloane Robinson Investment Management, London, UK) bei, der sich ausführlich mit den Chancen – aber auch mit den Risiken – für den japanischen Aktienmarkt befasst hat.

Zwar hat der japanische Marktindex TOPIX (Erklärung siehe weiter unten) in den letzten zwölf Monaten schon um über 26 % zugelegt. Ich denke aber, dass mittelfristig deutlich höhere Kurse möglich sind. Sloane Robinson zeigen auf, dass 1200 Punkte erreichbar scheinen.

Für interessierte Investoren gilt es jetzt nich auf einmal voll in den japanischen Markt zu investieren, sondern immer wieder kleinere Positionen an schwachen Tagen oder nach kleineren Korrekturen aufzubauen. Nachstehend sehen Sie die Kursentwicklung des TOPIX über die letzten 20 Jahre.

Quelle: OnVista

Quelle: OnVista

TOPIX (Quelle: Wikipedia): TOPIX steht für Tōkyō Stock Price Index und ist neben dem Nikkei 225 ein Kursindex der Tokioter Börse. Berechnet wird der TOPIX seit 1988. Er enthält alle japanischen Aktien, welche im amtlichen Handel zugelassen sind. Die Gewichtung der einzelnen Unternehmen im Index erfolgt anhand der Marktkapitalisierung. Gegenwärtig (25. Juli 2010) setzt sich der Index aus 1672 Aktien zusammen. Wegen dieser hohen Zahl an vertretenen Unternehmen wird der Topix als aussagekräftiger für den Zustand der japanischen Wirtschaft angesehen als der Nikkei.

Anhang: Artikel von Sloane Robinson Investment Management (in englischer Sprache):

Japan – Long term value : Medium term opportunity

February 2013

Japanese shares are down some 70% from their highs in the first morning of trading in 1990. Bear markets are supposed to be short. However, the combination of exceptionally high stock market valuations during the late 1980’s and two decades of deleveraging/deflation have brought about one of the longest equity market downturns in modern times. The bear market was, for shareholders, the worst to endure because Japanese corporate management often seemed deaf to investors’ concerns – management seemed unwilling or unable to boost the returns on capital employed.

Now, three key variables – valuations, profitability and monetary policy – are much more supportive of equity prices and have probably signaled the end of the secular bear market. Of course, experienced investors will have heard a bullish call to arms before and there have been many false alarms during the course of the bear market. However, we find the evidence in support of a major reversal in the equity market trend to be persuasive.


The chart below provides a snapshot of valuations across various regions. This is a fairly typical assessment showing that Japanese equities are inexpensive on book value comparisons, trade at close to 2008/9 trough valuations and are even beginning to stand comparison on a dividend yield basis.


Japanese equities are likely to produce the strongest earnings per share growth this year (fiscal), but the problem of low profitability apparently continues (as we discuss below). Goldman Sachs are forecasting a 60%+ profits recovery from the aftermath of the Tohoku earthquake and Thai floods which, on their estimates, would take Japan’s return-on-equity (ROE) to a relatively meagre 8.2% even after accounting for recent yen weakness.

We further note that Japanese equities have now underperformed the local bond market (ten-year JGBs) for more than 50 years. However, the yield on the Topix index is now roughly three times that of an average duration domestic bond portfolio. In our opinion, this creates a valuation scenario that is much more compelling for equities.


There are a range of reasons why the recovery in Japanese profitability has likely been underestimated.

Firstly, Japanese manufacturing and service companies have had a torrid time over the past five years. The combination of the global financial crisis, the Tohoku earthquake, Thai floods and the euro crisis brought about a savage fall in top line revenues – Citibank estimate Topix 500 index sales fell more than 20% peak to trough. Many large exporting companies – for example, Canon and Toyota – still record revenues down 20%-30% from their highs. Companies have responded to these pressures by reducing both fixed and variable costs aggressively, at the same time as capacity utilisation has fallen sharply. As a result, companies’ breakeven levels of sales have reduced enabling them to generate higher profits from the same level of revenues.


The above charts indicate the trend in fixed and variable cost reductions for leading Japanese companies with at least ¥1 billion in capital. The result of these reductions has been to increase operating profit margins, even at the current lower levels of capacity utilisation, by between 1.4% and 1.75%. This has two important implications; i) Japanese corporates remained profitable in 2009 at levels of capacity utilisation which in prior cycles would have spelled losses, and ii) Japanese margins and ROEs are even more heavily geared to top line revenue growth than in some previous business expansions.

Secondly, a weaker yen, especially against other Asian currencies – notably the Korean won – would provide (and recently has been) an obvious support to Japanese profit margins. It is noteworthy that in the autumn of 2011, the Ministry of Finance (MoF) inaugurated its first large scale foreign exchange intervention against the yen for more than five years and repeated this during the first half of 2012.

Thirdly, it appears that the deleveraging of Japanese corporates is ending. In prior cycles on-going debt repayment capped any ROE improvement.

Fourthly, and arguably the most important reason, is the evident changes in Japanese corporate culture. In particular, more large companies are targeting higher returns on capital employed. This approach appears to us to have been led by Japan’s trading companies (Mitsubishi Corp, Mitsui & Co) – arguably the most cosmopolitan of Japanese corporates – and by erstwhile “mavericks” such as Nidec. It is also certainly true that companies such as Fanuc, Keyence and Kyocera have generated high margins without necessarily emphasising financial targets. But it is of enormous significance that old style Japan companies such as Hitachi and Nissan now place financial objectives at the head of their medium term strategies. Canon has also announced a further substantial round of cost reductions, as has Toyota – the latter aiming for cost savings equal to prior record operating profits. Japan Tobacco states it intends to buy back the government’s stake, thereby boosting returns on capital employed, in order to compete with foreign brands and even Mitsubishi Heavy Industries (MHI), which used to epitomise Japan’s casual approach to shareholder returns, now has a modest ROE target of 8%.

The actual and potential recovery in Japanese profitability is particularly well illustrated in the banking sector. For the past two decades the major city banks have been bedevilled by deleveraging (bank assets have fallen by more than ¥100 trillion since 1991), credit costs and equity issues. This is no longer the case. The three largest city banks will likely earn an average ROE of 8.5% in the year to March 2013, pay enhanced dividends and are without threat of equity issuance (some commentators expect MUFJ and SMFG to buy back shares in the new financial year). The fact is that these banks, unlike their counterparts in many areas in the West, are able to support a recovery in Japan’s credit cycle and the management of SMFG and MUFJ certainly say that they are keen to expand their balance sheets.

Monetary Policy

The extent to which Japanese banks can begin to expand their balance sheets depends to a large degree on the stance taken by the Bank of Japan (BoJ). Other investors will have their own views on the BoJ’s policy, but it seems very clear to us that Governor Shirakawa has become completely isolated in his view that the BoJ is, in practice, powerless to reverse deflation. The LDP’s convincing electoral victory in December was fought principally on the need to reflate the economy following more than twenty years of flat nominal incomes. Not only does the Japanese electorate share Prime Minister Abe-san’s goal, but he is supported by the MoF and presumably shortly by a much more dovish new BoJ Governor. This would be the first time in twenty five years that the Government, the BoJ and MoF have their key policy objectives aligned.

It is increasingly evident that the bias is already towards a much more accommodative policy that reverses two decades of high “real” interest rates. The BoJ has announced a 2% CPI target and boosted its asset purchase programme and current account balances. This bias towards monetary accommodation has been forcefully underpinned by aggressive MoF led foreign exchange intervention against the yen. This has helped foster a sharp depreciation in the yen.

The market is beginning to sense that Japan is moving away from deflation. The chart below shows that the “break even” level for 7-year Japanese inflation linked government debt is now consistent with a mild increase in inflationary expectations.


Profitability and the Equity Market

The chart below illustrates that over the past decade the ROE of the Topix has been an important contributor to the trend in that Index. For the reasons given above, we expect the ROE of the Topix index to equal and then exceed those of the 2003-2007 period. The preconditions for this are modest monetary accommodation, modest overseas growth and modest yen weakness. Japanese profitability is highly leveraged to each of these outcomes but none appear to us to be adequately priced into the equity market.


An entirely separate reason for expecting Japanese profits to rise comes from the notion that Japanese profits are underestimated because Japanese depreciation is currently overstated. It has been noted by some commentators that cash flow per share to Japanese companies is generally much higher than in the US. In fact, one commentator estimates that an investor who buys a portfolio of Japanese non-financials on the same PE multiple as a US portfolio will be buying 84% more cash flow. The principal cause of this difference is depreciation.

The chart below suggests that depreciation alone can now finance all of Japanese non-financial companies’ new capex. If Japanese companies’ depreciation has been overstated in the past then current book values are likely too low.

Investments Capex

This analysis also points to a further source of profitability gains. It would appear to us that whilst Japanese companies over-depreciate their assets US quoted companies under-depreciate theirs. Therefore, if the new LDP led government implement what has been suggested (i.e. reducing Japanese corporate tax rates in exchange for reducing capital and other allowances) then there is a good chance that the ROE for the Topix index will rival that of the S&P 500 in a couple of year’s time. We rate the chances of this wholly sensible policy being implemented at approximately 40%.


There are some important risks to our view that the medium term trend in Japanese profitability is underestimated.

Firstly, the Japanese authorities could implement fiscal consolidation alongside reflation – which to a certain extent is a risk shared with investors in the US market. However, the price of Japanese equities is the mirror image to those in the US – they are priced at high discount rates to historically depressed margins whereas the converse is true in the US.

Secondly, the age old concern about poor Japanese corporate governance continues. However, now that leading Japanese companies are, increasingly, emphasising profits over market share and banks are willing to finance an increase in their own and their borrowers’ balance sheets this risk seems to us to be less applicable. It is nevertheless very important that the Japanese authorities are not deflected from the need to reflate.

Thirdly, the relative absence of local financial sector participation in the current rally. To a large degree this reflects the fact that Japanese pension funds are liability management constrained against increasing their very modest equity weightings. We understand it would take a rise in JGB yields above 2% to significantly change this asset allocation.

Investment Outlook

If we are correct that Japanese profitability trends towards an ROE of 10% or higher over the next eighteen months then Japanese shares are certainly attractively valued. Such profitability would also imply strong earnings growth this year in the context of moderate global growth. For example, should investors become comfortable with the notion of higher Japanese profitability, a 10% ROE could certainly, in our view, be consistent with a 1.5x price-to-book multiple on the Topix index, implying a level of 1200.

Our dedicated Japan portfolio1 is aiming to take advantage of this opportunity – and deliver further upon the strong returns of 2012 – through a fully invested position whilst adopting a strategic hedge against yen weakness. We are likely to retain a balanced exposure between manufacturing exporting companies and domestic reflation beneficiaries. The manufacturing exporters are attractive NOT only because of gearing to a modestly weaker yen, but companies such as Hitachi, MHI and Toyota have the clearest and most credible cost reduction programmes in place. We are also invested in the pioneers of improved Japanese profitability – such as the trading companies which have very low valuation multiples notwithstanding them achieving more than five years of double digit ROEs – and superbly managed companies such as Nitto Denko. Our exposure to the domestic sectors of the market includes the city banks, property and housing companies and REITS. We do not emphasise small companies per se, but with almost 60% of the second section of the market (TSE2) trading at or below book there is little shortage of attractive candidates to consider.

Japan has been exerting a growing influence in the positioning of our more international mandates, reflecting what we see as one of the most exciting and strategic investment opportunities around.

Japan has been a disappointing and frustrating equity market for two decades. Initially this reflected exceptionally high valuations, as well as poor profitability. Both of these have now changed. We are confident that this time it is different.