After two decades in the economic wilderness, 2013 marked what appeared to be the start of a sustained turnaround for Japan – and for the country’s equity markets, which surged more than 50% last year.
The introduction of prime minister Shinzo Abe’s three-arrow reform programme (monetary easing, fiscal stimulus and structural reform) was widely lauded by analysts and, even more importantly, supported by the country’s citizens. Public approval of the prime minister has roughly mirrored performance of the Tokyo Stock Exchange, reaching a high of just over 70% last spring.
Three months into 2014, however, the Japanese market was the worst performer in the developed world, having taken a 10% nosedive in the first quarter.
Perhaps even more worrying for Abe’s reform package were the results of a March domestic opinion poll: according to that survey, just 24.5% of Japanese said they think economic conditions have improved because of 'Abenomic' policies, compared to 70.9% who said they have not improved.
Meanwhile, the introduction of the third arrow – structural reform, including free-trade agreements and wage hikes – has yet to be fully implemented, although some measures, such as a little-noted salary increase for public-sector workers, will take effect shortly. It is worth noting that this will be counter-balanced by a (highly unpopular) 3% increase in the country’s consumption tax.
There is little doubt that, if required, Bank of Japan governor Haruhiko Kuroda is prepared to inject further monetary stimulus, in stark contrast to Fed policy of tapering.
However, at least for now, the markets appear highly sceptical about the promise of Abenomics.
Today, most bets on Japanese stocks are bearish. We don’t agree with this stance, and believe the market is still well positioned in the longer run in terms of valuation.
Indeed, the recent correction is creating good entry points for anyone who missed the Shinkansen bullet train last year.
Not only does the Japanese market offer appealing price-to-earnings (13.1 vs. 16.2 in the US and 14.5 in Europe) but also very attractive profit growth.
Even if the market continues to decline in the short term, there is no doubt Abe, supported by the Central Bank governor, will do everything in his power to reverse that trend – including further accelerating the pace of reform.
His political future depends upon it.
In fairness, the market’s initial, exuberant response to the introduction of Abenomics was doomed to end in disappointment; that does not mean, however, that the experiment has failed.
Hedging currency risk will remain critical, as will identifying limited-growth shares that are nevertheless undervalued or more fairly priced shares that offer exposure to firms with solid fundamentals and a dominant competitive position.
The market’s current roller-coaster performance may continue in 2014. Our advice is to hold on tight and enjoy the ride.
Marc-André Lizin is a financial analyst at Brussels-headquartered Puilaetco Dewaay, a member of KBL European Private Bankers.