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How to tap into Japan’s new growth phase

Fund managers warn investors not to overlook investment opportunities amongst Japanese exporters.

 
How to tap into Japan’s new growth phase

Encouraging Japanese second half GDP figures suggest that prime minister Shinzo Abe's sweeping reforms, known as 'Abenomics', are gaining traction.

Over the three months to the end of June, Japan's economy grew at an annualised rate of 4%, much higher than the 2.5% figure that had been widely expected. This represented the country's sixth consecutive quarter of growth - the longest streak in more than a decade.

The growth figures suggest that Abenomics is progressing. Named after Abe who came to power in December 2012, these reforms comprise of three parts: quantitative easing or rather money printing, fiscal stimulus and structural reforms. The latter includes attempts to overhaul what had been an inflexible labour market and improve corporate governance.

An over-valued currency, a stagnant economy mired in deflation that has been held back by an ageing population feature among the historic negative charges levelled against the country.

However, investors suggest that a new mindset is needed and that it could be time to consider allocating to Japanese equities, which look cheap compared to other markets.

Investors looking to play Japan can do so by focusing on companies exposed to the recovery in the domestic economy or by selecting from a host of well-known Japanese multi-nationals.

Backing exporters

A number of fund managers argue that the investment case for exporters has been strengthened by the European Union and Japan’s recent agreement to create the largest free-trade area.

Back in July, European Council president Donald Tusk and Japanese prime minister Shinzo Abe declared a framework for an ‘economic partnership agreement’, which has the potential to create a trade deal that would account for 30% of global GDP.

Provisional figures from the Japanese Ministry of Finance also showed the value of outbound shipments grew 9.7% year-on-year in June, beating a Reuters poll forecast of 9.5%.

‘Global growth remains on track and the Japanese economy should continue to expand beyond its potential growth rate. Furthermore, indicators of manufacturing activity such as exports and production remain firm,’ said A-rated Nicholas Price, manager of the Fidelity Japanese Values fund.

Neptune Japan Equity fund manager Chris Taylor also has a positive outlook for Japan’s exporters. This helps to explain why his fund focuses on multi-national companies, which dominate their global industries and derive the majority of their revenues overseas. This means they benefit from a weaker yen.

Taylor noted that the geopolitical uncertainties emanating from Europe, the Middle East and North Korea this year have caused the yen to strengthen, creating a less positive environment for exporters.

Nevertheless, he remains focused on large companies with overseas earnings. He points out that a lot of Japanese firms have moved away from a pure export model to a multi-national approach to production and sales, which in turn reduces their dependence on Japan’s domestic economy.

‘This means they should enjoy faster revenue growth, given that their significant emerging markets operations benefit where local GDP growth is far in excess of that achieved by Japan.’

Where to invest

Given this upbeat view for Japanese exporters, where are fund managers putting their money?

Price said the Japanese healthcare sector can not only benefit from the country’s ageing population, but also growth in demand from emerging markets.

‘Japanese medical technology companies, such as M3 (2413) and Sysmex (6869), are gaining market share amid global efforts to reduce medical costs. Medical technology stocks are well placed to tap into growing demand from emerging markets,’ he said.

Another export theme Price is playing is automation and the growth of robotics.

‘Robot production globally is growing around 6% per annum, driven by cyclical capex demand in the major markets of Asia, Europe and the US,’ he said.

Price likes Keyence (6861) in this space, which has developed advanced vision and sensor technology. He is also positive on Fanuc (6954), which increased its robot production capacity by 20% last year to meet rising demand.

Attractive valuations

BlackRock's global chief investment strategist Richard Turnill (pictured above) questions whether Japanese equities are ‘approaching a peak they have struggled to climb over in past decades’.

Nevertheless, he is optimistic because Japanese stocks look inexpensive in comparison to other markets. For example, Japanese equities trade at a 20% discount to the US on a 12-month forward price-to-earnings basis.

‘A sustained global economic expansion is boosting overseas earnings, while wages are rising just enough to bolster domestic consumption, without eroding profit margins. The recovery in earnings also reflects companies’ greater focus on shareholder returns,’ he said.

However, this profit expansion has not been uniform. As a result, Taylor is largely avoiding the underperforming energy, utilities and telecoms sectors, instead favouring industrials, materials and IT. His largest position is in Nintendo (7974).

‘Nintendo is a long-held position that has performed exceptionally well over the last year [rising by over 40%],’ he said.

‘Despite its gains, we believe the stock has further to go, given its intellectual property and the potential monetisation of its back catalogue of games,’ Taylor added. 

5 comments so far. Why not have your say?

Law Man

Aug 15, 2017 at 17:24

I have always avoided Japan, coloured by the 20 year slump. Now I wish I had bought some 2 years ago.

Recently I bought Lindsell Train Japanese which seems more conservative in stock selection. Next: perhaps BAILLIE Gifford Japan.

Normally I buy ITs, but BGFD and BGSN are at premiums to NAV, and could suffer more in falls.

Any views, readers?

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Kath Wood via mobile

Aug 15, 2017 at 19:53

Been into Japanese IT'seems for awhile. Cheap with huge potential going forward!

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Rowbow

Aug 15, 2017 at 21:05

Yes but look at the excellent performance from BGFD and BGS

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Jim99

Aug 16, 2017 at 10:40

I bought Baillie Gifford Japan and Pacific Assets Trust about a year ago. Now I wish I had put it all into BGJapan. Like you there are some other ITs that I should have bought and some I should have sold, but isn't that always the way.

Everything I read says the Japanese economy is on the up so I will add when the premium is maybe 1-2% but BGJ and Shinon are both a little rich right now. With the exception of Fundsmith I only hold ITs, so no comment on fund alternatives.

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Jezzer via mobile

Aug 19, 2017 at 11:11

I held BGS for years, with fabulous results, until I rebuilt my pf to a more income-oriented model ready for retirement (which happened yesterday!). Now I am thinking more about the role of capital growth in my income pf and thinking about buying it again. I would have no hesitation in doing so. Despite volatility it has performed brilliantly in the medium-long term.

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