Is the land of the rising sun about to emerge from the dark at last?
Japan's economy may be shrinking at a frightening pace, but investors should not turn their backs on the former powerhouse. Julian Knight reports
Sunday 21 June 2009
At first, second or even third glance, Japan is not a likely candidate for the private investor looking to make a quick killing or enjoy steady long-term growth.
The economic numbers are, in one fund manager's words, "horrific". GDP in the first quarter fell 3.8 per cent. If that were repeated over the course of a year, the Japanese economy would have shrunk by 14.2 per cent – great depression territory rather than a straightforward recession. The main problem for Japan is that after a decade-long torpor, the one part of the economy which was still doing well – exports – has fallen off a cliff, particularly in the automotive sector.
However, a more hopeful story is emerging that there could be a recovery under way, and if investors get in on the ground floor, they could make a decent profit.
"There are two distinctive sides to the Japanese economy, the exporters – the Honda, Toyota and Sony of this world – and then firms geared towards the domestic economy," said Simon Somerville of Jupiter Japan High Income Fund.
"The early 1990s crisis was centred on this domestic side of the economy and the country's economic position has been rescued by the exporters. What we are now seeing is a complete reversal: the exports are weak while the domestic economy, having been restructured, is in a much more robust state," he said.
The latest figures show that consumer confidence in Japan is the highest it's been since before the onset of the global crunch. Fund management group Jupiter obviously thinks that Japan's time in the sun has come again and launched the Japan Select fund last week.
"Japan's banks didn't have anywhere near the difficulties encountered by their Western counterparts last year, and there are several parts of the domestic side to feel good about such as retailing and railways," said Charlie Morris, the head of absolute return at HSBC Global Asset Management.
However, some of the Japanese industrial stocks that have rallied of late may still suffer rocky times ahead, Mr Morris believes. "Quite frankly, the world economy is still a mess and this isn't going to help the export side of the economy. What's more, I still see the Japanese yen staying strong, which isn't going to help those companies selling goods abroad."
One exception to this may be companies involved in the export of goods to China. "The past few years have seen China become Japan's biggest trading partner, more now than the United States," said Mr Somerville. "The economies tie in well together. The Chinese manufacture the consumer goods, while the Japanese firms supply the plant and technology. Now if you believe, as most do, that China is a long-term growth story, it follows that its biggest trading partner is going to benefit too. Against this backdrop, some of the stocks are very cheap."
But private investors could be forgiven for having déjà vu. "There have been so many false dawns for the Japanese economy and its stock market in recent years. The problem is that the Japanese consumer would rather save than spend, and even very low interest rates haven't made much of a difference to this. Longer term, too, Japan has the difficulty that it has a ageing and declining population, and that doesn't make it an obvious growth story," Mr Morris said.
With such mixed investment signals it's crucial for anyone wishing to put money into the Japanese stock market to pick the right fund. Simply buying into a Japan tracker fund – which as the name suggests tracks or replicates a specific stock market indices – means that investors will get the bad as well as the good companies.
"This is a real stockpicker's market: you need a manager who can identify the well-run companies from those involved in tricky parts of the Japanese economy such as automotives," said Ben Yearsley from independent financial adviser Hargreaves Lansdown. A quick scan of the past performance charts shows that the standout fund is the Neptune Japan Opportunities. It has grown 106 per cent over the past year and 86 per cent over the past three years. This compares to an average fall in the Japanese stock market of 8.6 per cent over one year and 19.7 per per cent over three years. However, Mr Yearsley warns investors not to be dazzled by Neptune's outperformance. "The management team at Neptune shorted the Japanese stock market last year and they were proved dramatically right to do so. But I would like to see how the fund and its management perform in rising and falling market conditions," Mr Yearsley said.
Shorting is when the manager bets that share prices will fall. It is a high-risk strategy indulged in by many fund managers to a lesser or greater extent.
The funds Mr Yearsley currently favours include: Jupiter high income, Melchior Japan Advantage, Schroder Tokyo and GLG CoreAlpha.
As for what percentage of their portfolio investors would put into the Japanese market, the rule of thumb according to Adrian Lowcock from independent financial advice firm Bestinvest is between 5 and 10 per cent. "Generally, investing in Japan is riskier than investing in the UK and that's for two reasons. The Japanese markets, although the second biggest in the world, have struggled to outperform because of problems with the domestic economy. There is also a currency risk. If you invest in Japan and the yen falls in value relative to the pound when you sell your investment, you will see your returns cut."
But Mr Lowcock, who favours JO Hambro Japan Opportunities and Aberdeen Asia Pacific, says investors shouldn't be put off. "Japan can provide real diversity. The economy is very different from the UK's as it still has a strong manufacturing sector. The key is to understand your own tolerance of risk: if you're saving for retirement, don't have more than 6 per cent of your portfolio in Japan."
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