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4th March 2016

Felicia Hjertman, of the Baillie Gifford Japanese fund investment team, on current forces for change in Japan


Speaking at a conference yesterday organised by Portfolio Adviser — a financial journal and supporter of FundCalibre — Felicia Hjertman, part of the Elite Rated Baillie Gifford Japanese fund investment team, gave her views on the key drivers of the Japanese equity market.

Three key drivers for Japan

1) The first of these is improving corporate governance. Japan has lagged behind other markets in the past due to a lack of shareholder engagement, large and ineffective boards, and poor balance sheet management. However, companies are becoming much more engaged with shareholders and are now actually asking investors what they can do to improve.

2) The second is the tightness in labour markets. In 2012, unemployment was 4.3% and offers to applicants was 0.8x, split across sectors. By 2015, unemployment was 3.4% and offers to applicants was 1.2x, indicating more jobs than candidates. This is leading to wage rises, which is positive.

3) Finally, there is tourism. Historically, Japan has never tried to pushed this sector – they've focused on domestic tourism, never trying to attract overseas visitors. For example, until about 10 years ago, they didn't even have a tourism board! One was created in 2003 with the aim of drawing in 10 million visitors a year by 2010. Prime Minister Abe has doubled this target and, at the same time, made visa applications much easier.

Inbound tourism

As a result, tourism is accelerating, albeit from a very low level. There were 19.7m visitors in 2015, just missing the 20m target, and, importantly, inbound tourists were greater than outbound for the first time.

There is substantial scope for Chinese tourist numbers in particular to grow from current levels. This is especially noteworthy given their propensity to spend more than other nationalities (seven times more than their US counterparts). Out of the 110 million Chinese outbound tourists in 2014, only 2% visited Japan, underlining the capacity for this number to increase considerably from here. Even if this figure only doubles over the next couple of years, it should have a meaningful impact on Japanese businesses.

Whilst the growth in Japanese tourism presents a great economic opportunity, it is important to acknowledge some of the challenges that exist. In order for Japan to be able to continue to accommodate the rising number of visitors, several structural aspects need to be addressed. For example, hotel room occupancy rates at major hotels in Tokyo and Osaka are close to 90%, and average room rates are at their highest levels since 2008. There is also a lack of buses and tour guides, a situation that has led to prices quadrupling in some cases, as demand outstrips supply. Capacity at airports and ports also needs to be carefully managed in order for the number of visitors to rise sustainably.

Despite these challenges, we think that Japan will continue to benefit from inbound tourism over the next few years. It is a magnificent country and its natural beauty, complex history, and fascinating culture have only started to mesmerise tourists from around the world. We will continue to look for high quality companies with a strong competitive advantage that benefit from this secular growth trend.

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Past performance is not a reliable guide to future returns. You may not get back the amount originally invested, and tax rules can change over time. Felicia's views are her own and do not constitute financial advice.