Secrets of Success: The long-haul flight to Japanese success
Saturday 14 August 2004
Those of you who have chosen to share my view that it is worth being overweight in Japanese equities have not so far had much to show for their pains, at least if you track the performance of the main Tokyo market indices, the Topix and Nikkei 225. True, there has been plenty of excitement and several powerful rallies, but the overall trend for those who have simply stayed with the flow has been one of disappointment.
In fact, since its absurdly overvalued peak in 1989, the Japanese stock market has experienced a long and steady downward trend, punctuated, typically at four-year intervals, by spectacular recoveries that subsequently proved to be false dawns. The market was up strongly in 1999 and again in 2003, with smaller companies doing even better than the indices during those periods.
After peaking in April this year, the main Japanese indices have again been showing signs of volatility and weakness more recently. Technical indicators, if you believe in them, suggest that the market is now once more at a potential crossroads: if the Topix index were to now fall significantly through its support levels at around 1,100, then there is nothing to stop it falling a lot further. In the process it will undermine the argument of those who believe (or hope) that a sustained recovery in Tokyo share prices, leading to a breakout to much higher levels, is warranted.
Having canvassed the opinion of several leading authorities on the Japanese market in the last few days, it seems to me - stubbornly or perversely, you may feel - that the case for being overweight in Japan remains intact, even though the continued volatility of the market makes it tempting to try and trade through some of the big cyclical swings. (This is not a market where indexing, for several good reasons, is such a powerful strategy as it is in other markets.)
There seems to be little doubt that the Japanese economy, which has been hamstrung by debt deflation for well over a decade, is now heading along the road to recovery. Corporate earnings are rising nicely, deflation finally looks set to drift into modest inflation in the near future, and the corporate sector has at last begun to change its attitudes and habits quite decisively towards a more shareholder-friendly system of capitalism.
In fact, according to Ian Wright, the highly experienced manager of the Morant Wright Japan Fund, some of the things that have been happening in the domestic sector of the economy in recent months would have been unthinkable even five years ago. This was when Mr Wright and his co-founder Stephen Morant, a former partner of Cazenove, first set up a boutique fund management group to invest in domestic Japanese companies.
Those of you who share my belief that it is useful to track the contrarian behaviour of expert fund managers might dwell on the fact that both these experienced professionals chose to start their new firm at a time when all eyes were on the Nasdaq boom and nobody else had much time for the Japanese market. Their fund promptly underperformed the world market by 60 per cent in its first six months, but since then has gone from strength to strength, rising 60 per cent since launch, during which time the Topix index has fallen by 15 per cent and the Nikkei 225 by 20 per cent.
The evidence of shareholder-friendly behaviour that Mr Wright points to includes a reduction in cosy cross-shareholdings between firms, a growing interest in paying dividends, the emergence of stock options for managements, and a general appreciation of the need to manage companies for profit, not for sales growth alone. While pro-shareholder behaviour has been common at the big exporters such as Toyota and Canon for some time, its spread to domestic companies is a once-in-a-generation change that seems unstoppable.
On top of that, many Japanese domestic companies now look cheap. You can no longer buy companies for less than the cash in their balance sheets, as was the case five years ago, but the average stock in Morant Wright's portfolio sells for around book value, though the market as a whole sells at 1.6 times book value. If you know where to look, in other words, and have the experience to peer through the confusion that is Japanese accounting methods, there are still good bargains to be had.
It is true that risks remain attached to the view that selected Japanese shares are good value. At the aggregate market level, according to Andrew Smithers, a fund management consultant, the Tokyo market may now be "as overvalued as the American market", which means it is selling at 60 per cent more than its fair value when measured against the replacement cost of company assets.
In Mr Smithers's view, the problem for investors in Japan is that, while a return to inflation would undoubtedly be good news for Japanese equities, some big structural problems remain in Japan. These include a big fiscal deficit; excessive debt; and (most crucially of all) very poor returns on capital. In fact, on his figures, the average return on equity at Japanese companies may be as low as 0 per cent. Only "money illusion", and a misguided willingness to believe that reported profits accurately reflect underlying profitability, is keeping the Japanese stock market afloat.
Even other optimists, such as Huw Llewellyn, co-manager of the well-regarded Thames River Japan Fund, concede that things could still go wrong in Japan.
The two biggest risks are a sudden weakening of corporate earnings, possibly triggered by a slow-down in the US and Asian economies, and a decision by the Bank of Japan to abandon its zero interest rate monetary policy too quickly. Either of these developments could choke off demand and throw the stock market into reverse. There have, after all, been false dawns before.
If the data goes that way, then there will be no option but to recognise that reality. However, to my eyes, the potential gains to investors from the change in corporate behaviour, coupled with the low ratings and the reasonable prospect of a return to inflation, continue to make the risk-return trade-off from a commitment to Japan look attractive. That said, stockpicking may well continue to be the key to achieving sustained outperformance and the risk of a fallout from a weak US economy after this year's presidential election must be rated a very real one.
Customers paying up to £250 more on energy bills than they should every year
10 tips for taking out a personal loan
Has your Premium Bond won the £1million jackpot?
There are 'dark corners' of the investment and pensions industry, says Pension Minister
Simon Read: You're guilty until proven innocent when HMRC sends in the tax credit detectives
- 1 Home Office says Nigerian asylum-seeker can’t be a lesbian as she’s got children
- 2 What happens to your body when you give up sugar?
- 3 Japanese island overrun with cats after population explodes
- 4 Apple and Google users being spied on for a decade because of 'Freak' security flaw
- 5 Have sex with your iPad thanks to the new sex toy no-one asked for
'Jihadi John': CAGE representative storms off Sky News accusing Kay Burley of Islamophobia
Durham Free School: 'Creationism taught at' free school facing closure
Nearly 100,000 of Britain's poorest children go hungry after parents' benefits are cut
Ukip would cut billions from Scottish budget to fund English tax cuts
End of the licence fee: BBC to back radical overhaul of how it is funded
Ukraine crisis: Top Chinese diplomat backs Putin and says West should 'abandon zero-sum mentality'
iJobs Money & Business
£25000 - £30000 per annum + benefits: Ashdown Group: A global leader operating...
Voluntary post, reasonable expenses reimbursed: Reach Volunteering: Would you ...
£36,000 - £40,000: Christine McCleave: Are you looking for a new opportunity a...
£15000 - £18000 per annum: Recruitment Genius: This is a great opportunity for...
Day In a Page
This six-bedroom Georgian home is on three floors with open fireplaces, a two-oven Aga, an annexe, and cottage gardens with outbuildings and a car barn
High Crest House covers an impressive 9384sq ft, with almost three acres of grounds including a tennis court and summer house enclosed by electric gates
A six-bedroom farmhouse with separate accommodation in converted stables. Situated in the village of Church Aston, within walking distance to the market town
A two-bedroom flat with under-heated walnut floors and bespoke built-in storage. The Tube and Clapham Common are a short stroll away
A refurbished seven-bedroom townhouse with staff quarters, cinema room, superb gym, steam room and plunge pool
A minimnalist four-bedroom home designed to the highest spec, featuring glass walls and a kitchen space lit by a glass roof
Hibernate during winter and make your living during the summer at this busy guesthouse with panoramic sea views, in the village of Lynton
A four-bedroom penthouse next to the Tate with direct views of St Paul's from two floors of luxurious living space
A four-bedroom detached home surrounded by spacious gardens and woodland, close to New Pudsey
An 18th-century, three-bedroom home near Langstone Harbour built from ships beams with vaulted ceilings and wood burning stoves
A five-bedroom semi-detached home with a mix of period and modern features in a popular and convenient location
This five-bedroom red-brick beauty overlooks the village green and sits in just under two acres of land
A three-bedroom villa with self-contained flat, minutes from Lake Windermere
A deceptively spacious, beautifully presented Georgian home with 3000sq ft of living space and five reception rooms
A five-bedroom Victorian home with four receptions, superb gardens and paddock in Pembury
An eight-bedroom house on the south side of the The Green with cinema, wine cellars and summer house
This 17th century beauty is full of rustic cosiness, while the detached home office means you can also run a business
Four exclusive apartments in a Grade II-listed former medical school with 2,275 sq ft of living space and 18ft ceilings
A five-bedroom terraced house on the popular Peterborough Estate, ideally located for both Eel Brook Common and South Park
A state-of-the-art farm-building conversion on the former Cliveden Estate, with 11,420sq ft of internal space, cinema and wine cellar
A three-bedroom, 15th-century cottage with original features in the picturesque village of Sissinghurst
A six-bedroom terraced house with large south-facing roof terrace, cinema room and wine cellar
A new seven-bedroom home built in Queen Anne-style with swimming pool and parkland views in Mortimer
A listed, four-bedroom farmhouse in the rural hamlet of Rushall with detached barn, four acres of gardens and paddocks
A first-floor flat with two bedrooms, a spacious reception room and communal grounds in a leafy part of London
A three-bedroom flat with a spacious rootop terrace and balcony, accessed from a private gated courtyard
A Grade II-listed pile with six bedrooms, stables and 39 acres of grounds in Standlake
A two-bedroom flat with boutique hotel-style interiors, close to the foodie haunt of West End Lane
A two-bedroom flat in a beautiful old vicarage, with many original features, close to the city centre
A three-bedroom 16th-century home with an aga kitchen, private gardens and heated outdoor pool, in Hadleigh
A three-bedrom home in sought-after Queen's Gate Mews, with Italian marble-finished bathrooms
Surrounded by glorious countryside in the village of Udimore, sits this impressive four-kiln oast and barn conversion
A five-bedroom house in the picturesque village of Kettlewell, north Yorkshire
An 18th-century former coaching inn with original staircase, open fireplaces and beams throughout
A Grade II-listed Georgian town house with three bedrooms and a south-facing courtyard, near Arundel Castle
Feel on top of the world at this über chic penthouse on the 37th floor of one of Europe’s tallest blocks.
A Grade II-listed Victorian villa with six bedrooms and two further cottages, all with spectacular sea views
A grade II-listed, Georgian cottage with mature 50ft garden, perfect for summer entertaining
A magnificent Georgian pile with turrets, seven bedrooms, a heated pool and four acres of gardens
Fairoak Farm has five bedroom suites, gym, outdoor swimming pool and golf course
Chic two-bedroom river-fronted flat with a private lift that delivers you directly to your home
A spectacular seven-bedroom Tudor pile, once owned by Henry VIII, with 18 acres of land
A seven-bedroom Georgian property previously used as a picturesque wedding venue
A split-level flat in a church conversion with two en suite bedrooms and 1,200sq ft of living space
A three-bedroom bungalow situated behind an impressive stone wall, £645,000
Windsor Castle overlooks this three-bedroom Victorian cottage located on one of Windsor's smartest roads