Fund managers are becoming increasingly cautious regarding Japan, despite the country’s two main stock indexes reaching three-decade highs. Investors who have been profiting from the rally are not exiting their positions, but are taking a break to reassess.
“I’ve lost some interest in Japan,” said Caroline Shaw, a multi-asset portfolio manager at Fidelity International in London, at a recent event. “The initial excitement has driven the market up, but it’s been slow progress. However, I’m not negative on Japan; I’m positive on Japan for the first time in my career. Institutions are changing, but the pace of change is very slow.” Shaw mentioned that she recently reduced her exposure to Japan, shifting her focus to Europe, specifically the UK, which is experiencing a post-election surge.
Market experts cite numerous reasons for believing that Japan’s gains will continue, with the stock market and its listed companies actively seeking foreign investors in a manner not seen in decades. “I’m a natural pessimist, but I think this time is different,” said Alisel Ogawa, a board member at Nippon Active Value Fund. She added that she hasn’t felt this way in 35 years.
Unfortunately, Japan remains unpopular among global investors, with most significantly underweight relative to benchmarks and lacking analyst coverage, leaving many untapped opportunities. Some question the genuineness of the companies’ shift towards boosting share prices and collaborating with activist investors.
BlackRock, the world’s largest asset manager, is among those enthusiastic regarding the Japanese market. Its investment institute recently announced that its increased weighting of Japan in its portfolio, exceeding indicator levels, is one of its most convincing positions.
Despite this optimism, Japan experts acknowledge that some investors are pulling back, many citing the yen, the world’s worst-performing major currency this year. While the yen remains unique, its performance is comparable to the Malawian kwacha as the worst performer, due to the Bank of Japan’s ultra-loose monetary policy.
Of course, this significantly understates the potential returns for foreign investors in Japanese stocks. In yen terms, the Topix and Nikkei 225 have gained 22% and 24%, respectively, this year. However, the perspective is quite different when valuing the portfolio in US dollars. In US dollar terms, the gains are a more modest 9% or so, although they have retraced somewhat since March.
Kentaro Watanabe, head of Asian equity sales at Nomura Securities, told me at an online event that foreign investors were very pleased with the yen’s slide from 140 to 150, calling it “fantastic” as it supports exporters. However, the currency has become a significant point of contention since it broke through 150 to the dollar, as only regarding half of the largest asset managers have hedged their exposure to the currency.
Unsurprisingly, Watanabe remains in the “buy Japanese” camp. However, Wataru Ogihara, chief investment officer of Sumitomo Mitsui DS Asset Management, recently shared over a sushi lunch in London that with the currency so weak, “it’s very difficult to convince international investors to return to the Japanese market,” many of whom haven’t been there for at least 20 years.
This week has seen support for both sides with a weaker US inflation reading, which has renewed expectations of a Fed rate cut. The yen is one of the major beneficiaries, as it has helped the dollar fall from its recent peak of 160 yen to around 158 yen. While this move is modest for now, it might be the start of a larger trend.
The appetite among investors to lock in gains in Japan-related trades is strong, reflecting a long history of disappointment among big money managers who have tried the market since the Great Crash of 1990. The market has rebounded so many times that no one wants to be the last one looking for an exit if history repeats itself, which would be disastrous indeed.
At an event last week, Josh Cotten, head of North American asset allocation at Columbia Threadneedle, highlighted his colleagues’ belief that it might be time to take profits from Japan-related investments and pull back.
“It’s unfair,” Cotten said. “Why aren’t you selling US assets for the same reason?” Still, Cotten mentioned that long-term investors carry scars from previous failed attempts to make Japanese asset allocations work. “The US hasn’t affected us the way Japan has in the last several years,” he said. The shockwaves still linger for many.
Japan’s Stock Market: A Balancing Act of Optimism and Caution
Japan’s stock market has been on a tear, with its two main indexes hitting three-decade highs. This has led to a surge of interest from foreign investors, who are drawn by the country’s improving corporate governance and economic outlook. However, amidst the bullish sentiment, there are signs of growing caution among investors.
The Yen’s Role in Investor Sentiment
The Japanese yen’s weakness has been a major factor in the hesitation among some investors. The yen is the world’s worst-performing major currency this year, thanks to the Bank of Japan’s ultra-easy monetary policy. While a weaker yen benefits Japanese exporters, it also reduces the returns for foreign investors who are looking to profit from the Japanese stock market.
| Currency | Performance vs USD (Year to Date) |
|---|---|
| Japanese Yen | -14% |
| Malawian Kwacha | -17% |
The Yen’s Impact On Returns
While the Nikkei 225 and Topix have made substantial gains in yen terms, the returns for foreign investors who hold their portfolios in US dollars have been more modest. This is because the gains in the Japanese stock market have been offset by the yen’s depreciation once morest the dollar.
Cautious Optimism
Despite the yen’s weakness, many investors remain optimistic regarding the Japanese market’s long-term prospects. They point to a number of factors that support this view, including:
- Improved Corporate Governance: Japanese companies are becoming more shareholder-friendly, with a shift towards boosting share prices and working with activist investors.
- Economic Recovery: Japan’s economy is showing signs of recovery, with rising wages and consumer spending.
- Government Support: The Japanese government has been supportive of the stock market, with policies aimed at boosting investment and growth.
The Role of BlackRock
BlackRock, the world’s largest asset manager, is among the institutions that have increased their exposure to the Japanese market. The firm has cited the country’s improved corporate governance and economic outlook as reasons for its optimism.
Taking Profits and Pulling Back
However, some investors are choosing to take profits from their Japanese investments, citing the yen’s weakness and the potential for a pullback in the stock market. They are concerned regarding the market’s high valuations and the possibility of a correction.
Historical Disappointment and Scarring
Many long-term investors are still scarred by past experiences in the Japanese market. The stock market has bounced back several times following significant falls, but each time, investors have been left wondering if this is the time the market will finally correct. This skepticism is contributing to the cautious approach among some investors.
The Future of Japan’s Stock Market
The future of the Japanese stock market remains uncertain. The yen’s weakness is a major concern, and investors are cautious regarding the potential for a pullback. However, the market’s strong fundamentals and the ongoing improvements in corporate governance suggest that there is potential for continued growth in the long term.
Whether the bullish sentiment prevails or the cautious investors succeed in their calls for a pullback remains to be seen. Only time will tell if Japan’s stock market can overcome the challenges and continue its recent ascent.
