The Japanese stock market was a stellar performer in 2013, with the Nikkei Dow up 57 per cent, its best annual performer in 42 years. Yen-hedged Japanese equities were my highest conviction macro idea since October 2012, when the investment implications of Abenomics became crystal-clear. This was the reason I recommended long dollar/yen at 76-78 as a core strategy idea and a five times overweight index long on the Nikkei Dow/Topix, ideas I published in successive columns.
Japan has been a lemon in 2014, with equities down 12 per cent since the New Year. There is a general angst about the failure of Abenomics’s structural reform, the lack of a Bank of Japan “shock-and-awe” monetary move, selling by gaijin investors and trust banks ahead of the year end, the credit woes in China and the safe-haven bid in the yen/Japan Inc profit outlook. This Japanese correction was both overdue and necessary. So as the cherry blossom (sakura) once again garland the sacred peaks of Mount Fuji, I recommend UAE investors once again take a long hard look at the Empire of the Rising Sun and the Eight Celestial Islands. Why am I bullish again on Japan?
One, Japan is one of the cheapest markets in the world relative to its earnings estimates. Japan now trades at 13 times forward consensus estimates yet corporate earnings could well rise 20 to 22 per cent, after the phenomenal 65 to 70 per cent EPS rise in 2013.
Two, as Japanese companies boost returns on equity via buybacks, restructuring, mergers and divestures, valuation metrics will rise. Japan trades at 1.2 times book value now. This is a level I want to accumulate shares in Dai Nippon.
Three, the rise in US Treasury note yields means a higher dollar/yen, a less-dovish Yellen Fed and an acceleration in the US economy. This means ¥106-¥108 by late summer is all too possible. I cannot think of a better macro milieu for megacap Japanese exporters.
Four, the Bank of Japan under Kuroda-san has sworn to double the monetary base and achieve a two-per cent inflation target. This is impossible without an easing move in April/June that is simply not priced into the financial markets of Marunouchi.
Five, it is extremely difficult for me to analyse the structural arrow of Abenomics since LDP factions/Japanese politics are so opaque and my knowledge of Japanese is embarrassingly embryonic. Still, tax reform, special economic zone (tokku), new immigration rules, international trade/tariffs, pharma deregulations, etc, are all on the agenda of the Diet, the Japanese parliament.
Six, the Japanese economy exhibits unmistakable evidence of reflation, from a rise in wages to land prices to stock market wealth to home prices. Land prices in Tokyo, Osaka and Nagoya have risen for the first time since the Koizumi era. This means Watanabe-san’s balance sheet/animal spirits are magnified by the “wealth effect”, ballast for higher consumption spending. This is all offset the April 2014 sales tax hike, which Kuroda-san will supplement at the next BoJ conclave, where the white smoke of an easing move can electrify the stock market. Aggressive asset purchases have been Kuroda-san’s modus operandi at the Bank of Japan.
Seven, unlike Europe or China, Japan Inc has positive earnings revision momentum. This suggests the consensus EPS, growth estimates in Japan are far too low particularly if the LDP reduces corporate taxes.
Eight, I have tracked Toyota Motor, Itochu and Mitsui and have found that, ceteris paribus, their dividend yields are three times JGB. The Nikkei Dow minus JGB government bond spread is 200 basis points now. This is an impeccable index of value. The Japanese stock market has a dividend yield of 2.7 per cent at a time when the ten year JGB yield is below 0.7 per cent.
Nine, the weakness in the Nikkei Dow in 2014 stemmed from $20 billion in foreign selling and a spike in the TSE short sell ratio to 35 per cent. However, while global mutual funds are once again lightly positioned/underweight Japan, pension funds and life insurers are now buyers. In fact, as inflation rises, Japan’s insurers, retail and trust banks will be forced out of debt markets into equities. There is also a new cult of activist investors (Sony) and share buyback in Japan. Of course, the 800 pound gorilla in Japanese pension fund is GPIF, arguably history’s greatest pool of capital.
Ten, Shinzo Abe aims to resurrect Japan’s equity culture after the two “lost decades” since the 1989 property/stock bubble burst, when the Imperial Palace in Tokyo was valued at more than all the land in California. Japan has $15 trillion in retail assets, mostly invested in zero yield bank accounts and bonds. This is the rationale behind the NISA account initiative. Mrs Watanabe (retail Japan) owns $1 trillion in Japanese equities. Yet Japanese property is worth $25 trillion. As the “wealth effect” deepens due to Abenomics and higher inflation, expect secular inflows into the Nikkei Dow.
Private companies in technology, transport & logistics, healthcare, pharmaceutical, manufacturing, and agri-tech will be offered incentives to go public and list on the DFM
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