Riding the wave of newfound investor optimism about Japan

Foreign investors have been piling into Japan, putting an end to long-held scepticism about the country’s prospects. Japan’s two leading equities indices have been among the world’s top performers in the first half of this year.^[1]

Indeed, the exporter-focused Nikkei 225 has risen to its highest level since the country’s so-called “bubble” era came crashing to an end at the end of the 1980s.^[2] Among the causes for optimism are strong corporate earnings and expectations that, in contrast to higher-for-longer conditions in much of the rest of the world, the Bank of Japan will keep stimulus measures going for longer.

Foreign buyers have also been encouraged by legendary investor Warren Buffet’s increased allocation to Japan, along with a push for better corporate governance by the Tokyo Stock Exchange (TSE).^[3] The TSE has introduced key reforms which should push Japanese companies to prioritize capital efficiency, profitability and transparency.^[4] Moreover, Japan seems to be benefiting from the clear rotation of Asia-focused investors out of China and into other regional markets.^[5]

Many see this as the beginning of a sustained period of gains. Morgan Stanley, for one, says that among all the major equities markets, it is “most bullish” on Japan, with the country’s high-quality stocks positioned for a prolonged period of outperformance.^[6] And Goldman argues that with investors shifting their attention away from China, Japan is “in the limelight.”^[7]

Even recent sceptics are revising their views on Japan. BlackRock, for instance, said it was “rethinking” its cautious stance on the country, saying Japanese stocks “stand out” from others in the developed world, and that – in contrast to its previous view – it now believes the Bank of Japan will be slow to tighten monetary policy.

Japan’s outperformance depends on interest rates remaining ultra-low, which will help keep the yen around its weakest level against the dollar in 20 years. This makes Japanese stocks a relatively cheap and attractive bet for foreign investors and the country’s exports more competitive.^[8]

Investors will therefore be paying close attention to the yen’s movements.

If inflation picks up even further, the BOJ may be forced to raise interest rates, which would strengthen yen.^[9] The yen would also appreciate against the US dollar if slowing inflation in the US persuades the Fed to start easing rates there.

Will the good times last for Japanese stocks?

Sceptics question whether the newfound buoyancy of Japan’s stock markets is sustainable or it might be just another bubble reminiscent of its roaring ‘80s – after all, the country’s economic growth has languished since the 1990s.

But many are convinced this time is different.

Several listed companies have beaten earnings expectations thanks to the export boost from the weak yen. This helped the economy grow by an annualized 2.7% in the first quarter of the year, soundly beating the forecast for 1.9% growth in a Reuters survey of economists.^[10] Importantly, there are also signs of a “decisive turnaround” in the country’s manufacturing sector performance, as gauged by the Purchasing Managers’ Index.^[11]

Meanwhile, analysis by Schroders concludes that – based on cyclically-adjusted price to earnings and dividend yield – Japanese stocks look attractively valued both historically and compared to other regional equity markets.^[12]

It is also worth highlighting that Japan’s stock rally appears to be driven by investors who take a long view, including investment trusts and pension funds.^[13]

At the same time, individual investors from around the world are also increasing their exposure to Japan through overseas exchange-traded funds, such as the WisdomTree Japan Hedged Equity Fund and JPMorgan BetaBuilders Japan ETF, which have recorded large inflows in recent months.

And global institutional investors are buying stocks beyond the traditional blue chips. They have been snapping up a broad range of small and midsize companies such as discount store operator Seria, general contractor Kumagai Gumi and machinery parts maker Misumi Group.^[14]

Identifying such stocks involves thorough consideration of several factors. As revealed in a new report by EquitiesFirst in conjunction with Institutional Investor, investors focused on Asia-Pacific equity markets believe that thoughtful analysis of non-financial information and environmental, social and governance (ESG) considerations will become increasingly crucial to picking high-performing stocks in the region.

Once investors have determined which stocks are worth pursuing, they may wish to consider securities-backed financing from EquitiesFirst to raise the necessary capital. With liquidity now at a premium, it offers a powerful tool for investors to monetize their long-term shareholdings without sacrificing the upside potential of their underlying holdings. They can thereby conveniently and cost-effectively rebalance their portfolios to reflect the international investment community’s newfound confidence in Japan’s long-term prospects.

---

[1] https://www.ft.com/content/f62c0d54-9060-4289-9a6d-83fc28655b4a

[2] https://www.reuters.com/markets/asia/japans-nikkei-powers-1990-bubble-era-high-2023-05-19/

[3] https://www.nasdaq.com/articles/why-is-warren-buffett-bullish-on-japanese-stocks-we-asked-a-wall-street-investment

[4] https://www.nasdaq.com/articles/why-is-warren-buffett-bullish-on-japanese-stocks-we-asked-a-wall-street-investment

[5] https://www.ft.com/content/f62c0d54-9060-4289-9a6d-83fc28655b4a

[6] https://www.theedgesingapore.com/capital/investing-strategies/morgan-stanley-most-bullish-japan-prolonged-outperformance-seen

[7] https://www.cnbc.com/2023/06/12/investors-eye-chinas-neighbors-as-recovery-from-zero-covid-slows.html

[8] https://www.bloomberg.com/news/articles/2022-06-10/why-the-yen-is-so-weak-and-what-that-means-for-japan-quicktake

[9] https://www.reuters.com/markets/rates-bonds/bojs-april-meeting-one-member-flagged-tweak-ycc-conduct-minutes-2023-06-21/

[10] https://www.cnbc.com/2023/06/08/japans-gdp-revised-sharply-higher.html

[11] https://www.cnbc.com/2023/06/08/japans-gdp-revised-sharply-higher.html

[12] https://www.schroders.com/en/global/individual/insights/japanese-shares-have-hit-33-year-highs-but-why-/

[13] https://asia.nikkei.com/Business/Markets/Foreign-buying-of-Japan-stocks-continues-reaching-lesser-known-shares

[14] https://asia.nikkei.com/Business/Markets/Foreign-buying-of-Japan-stocks-continues-reaching-lesser-known-shares