Dawn breaks in ‘the land of the rising sun’?

Global equities manager Alex Stanić discusses Japan’s welcoming of inflation and how the economy may – finally – be turning a corner.

The “Land of the Rising Sun” has seen too many false dawns for investors to get too excited about the Tokyo Stock Prices Index (Topix) breaking 30-year records, but the signals suggest Japan may finally be turning a corner. 

Nowhere else in the world has welcomed inflation like Japan, for whom the challenge has for too long been the reverse – deflation. Deflation encourages people to postpone spending and companies to hold off investing. Modest inflation – and at 4% Japan’s inflation is relatively modest – turns the momentum the other way. 

There are still problems, like an ageing population and currency challenges. And international investors will still be hesitant. But reforms instigated by former Prime Minister Shinzo Abe finally appear to be coming to fruition.

The Corporate Governance Code that was revised in June 2021 has given bite to the reform agenda – companies that don’t comply with the code could find themselves removed from the Tokyo Stock Exchange’s Prime Market. For management this is now about more than just being seen to appease complaining stakeholders. It is forcing companies to take ESG and diversity and inclusion seriously, and that is welcome. 

Perhaps the most immediate impact is coming from the requirements for more independent company boards. We are beginning to see the interests of all shareholders being recognised. Too many Japanese companies have been trading for too long at a discount to their book value. That makes for great bargains for investors, but if the discount never closes the value remains trapped. I think more independent boards will look for ways to polish the lamp and release the genie. 

Japanese companies have been relatively poor at generating a return on equity. Often this is because businesses are overdiversified. I think as board independence grows we will see more disposals, as well as an increase in share buy-backs and a focus on strong, steady dividends. This will give investors more confidence that they can achieve a return more in line with what the best European or US companies offer and that will support share prices.

There are many attractive priced world class companies listed in Japan. We particularly like automation stocks – Japan is a world leader in automation and with the US and other Western countries grappling with wage inflation, low unemployment and the desire to onshore manufacturing, automation provides an obvious solution. 

In the mid-1980s Japan made up more than 40% of the global index and the US was just 33%. History shows that the balance was wrong then, and it might show it’s wrong today, too. Today Japan is just 6% of the MSCI World Index; the US is nearly 68%. Within our portfolios we have twice the index exposure to Japan – 12% – and only 56% in the US.

I think that shows our confidence that real change is happening in Japan.

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