Mark Dampier: Japan - pick carefully and watch your fund blossom

The Analyst

It is always important for first-time investors to get off to a good start. Formative experiences are often full of harsh lessons and it can be easy to become disillusioned. My first investment was Japan. Now, I know what many of you are thinking: that market has been a disaster. Yet I am now in my fifties so my first investment was made in the early 1980s when Japan was the most exciting stock market to invest in. After six months my initial investment was some 50 per cent up and I was hooked. Unfortunately, since 1989 Japan has largely been in a bear market. It became an investment graveyard for many, fund managers included.

It certainly tests your conviction to invest in an area which keeps letting you down. However, dare I say it, things might be changing in Japan. Well, that's what Paul Chesson, manager of the Invesco Perpetual Japan Fund, thinks. To his credit Paul has been one of the biggest bears in the market since I have known him, so when he told me he had turned bullish on Japan and invested much of his own money in his fund for the first time my ears pricked up.

Paul has no great faith in the Japanese economy and acknowledges the many problems relating to public debt and an ageing, shrinking population. However, everything has its price, and he believes share values have got to a point where the bad news is fully reflected. Indeed, when I asked him if would change his view if the market fell further he said no, he would just put more money in.

Perhaps it is just as well he is looking at this from the point of view of stock valuations, as Japan's growth has again disappointed this week and China has overtaken it as the second largest economy in the world. However, you can see what Paul means regarding value when you consider that 65 per cent of the listed securities are below book value (or the sum of their assets).

Japan's market trades on a very low average book value of under 1.4 times. Even Toyota, a world-class brand, is trading around 10 per cent below net assets and is on a PE of around six times. In anyone's book this looks cheap and it is an interesting stock despite the damage to its reputation caused by the recent brake problems. Indeed, many tests carried out have yet to prove Toyota has been at fault anyway.

Paul Chesson believes many Japanese companies have made overly pessimistic forecasts for 2010, anticipating that improvements on 2009 figures were unachievable. He thinks they have actually beaten these low expectations in many cases. Despite the strength of the yen, companies are still performing exceptionally well, and while a double-dip would severely hamper the Japanese market he doesn't believe this will happen. He describes the global economic picture as a "recovery with soft patches" and although worries concerning a return to recession abound, the market already has exceptionally low expectations.

Although Paul Chesson's long-term record is admirable, the fund has struggled in recent months. Defensive stocks such as pharmaceuticals and utilities have been outperforming and there are few of these in his portfolio. He believes these are now expensive and sees better value in financial stocks such as Nomura, which he thinks offer a good level of upside potential. He also favours good quality real estate business, especially those exposed to commercial property.

The numerous false dawns in the Japanese market over the years have disappointed many investors. However, Paul remains as resolute as ever in his views, and it is worth taking note of them. For a long time he was right to remain bearish, so his transformation to bull is significant, and I for one hope he is right.

Mark Dampier is head of research at Hargreaves Lansdown, the asset manager, financial adviser and stockbroker. For more details about the funds included in this column, visit www.h-l.co.uk/independent

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