165. From cash to corpses – taking advantage of Japan’s risk averse nature
Baillie Gifford Shin Nippon investment trust manager Praveen Kumar talks to us about the...
After suffering less from the pandemic than many other major developed markets in 2020, Japan has had a more troublesome first half of 2021. Tokyo has now been placed under its fourth coronavirus state of emergency, with restrictions set to last until 22 August – the duration of the Olympic Games.
And although many companies continue to benefit from strong growth in China, the Japanese economic recovery has stalled. Those companies that cater for the services sector have also continued to struggle.
This has been reflected in the stock market. For the ten years the Nikkei had managed to perform well, outpacing the global stock market and reaching a level not seen for three decades, but the market fell in March when a slow vaccine roll out caused foreign investors to sell out.
So is this now a chance to invest in the land of the rising sun?
On the eve of the Tokyo Olympics, some Elite Rated managers share their thoughts on the outlook for Japanese equities and where they are finding opportunities.
“Japan is misunderstood in a number of ways. For example, many investors believe that its aging population means there is no growth, it is losing its global technology competitive advantages and it’s just an export economy.
“But that is not true. While nominal economic growth is just 9% since its peak in 1994, total corporate profits are up by some 140% in the same period. Japan commands a 40% market share of triadic patent families compared with 27% in the US and 10% in Germany and exports actually only account for 18% of GDP.
“In fact, investors will find a large number of dominant global franchises in Japan. It is home to many strong consumer brands that are benefiting from better demographics and the rising middle class in Asia (which accounts for 60% of global population), and there are plenty of secular investment themes among domestic companies – themes like e-commerce,
software-as-a-service, digital payment and private label discounters.
“And because the market is under researched – 73% of Japanese companies are each covered by just one analyst or none at all, compared to more than 3 analysts in the US – the opportunities for active managers are plentiful.”
“COVID has arguably helped to accelerate several trends that were already underway, including that of wider digital adoption. Lockdowns and social distancing caused even the most conservative businesses to capitulate to efficient online alternatives. This has opened up a plethora of possibilities, beyond the obvious areas of e-commerce and online payments. There are opportunities in wealth management, insurance, real estate and even end-of-life service providers.”
“Japanese companies reported an 11% fall in profits in the financial year to the end of March, but they are forecasting a sharp recovery in the current year. Of particular interest to income growth investors is a recent poll conducted by the Nikkei of 1,800 Japanese companies which indicates that a third of businesses plan to increase their pay out ratio.
“As Japanese companies benefited from strong balance sheets coming into the pandemic and, in aggregate, free cashflow have increased due to lower levels of spending, Japanese companies are in a robust financial position. At the same time, a recent expansion in the savings rate among household, which were already awash with cash, bodes well for a sharp recovery in demand.”
“Japan has suffered from the perception of a slow vaccine roll out recently, but it has some of the strongest companies in the world in terms of balance sheet strength. Sales growth and earnings growth have both outpaced the US in inflation-adjusted earnings per share over a number of decades and the economy is growing in profit terms.
“Japan also has one of the more stable political backdrops within developed markets right now, and the politics are very business friendly. While foreign investors may be wary, Japanese domestic investors are buying Japan again.
“The perception gap causes valuation discrepancies though that active-managers can take advantage of. In my view, Japan remains an unparalleled opportunity for investing in global leaders at a discount, since many of those stories are undiscovered.”