Japan is a conservative country which places continuity and stability above change. This can frustrate overseas investors, who periodically get excited about Japan changing and buy the stock market, only to give up a year or two later, disappointed at the pace of reform. In late 2012 Prime Minister Abe came to power, announcing he was going to fire “three arrows” – monetary easing, fiscal stimulus and structural reform, hence the phrase “Abenomics” was coined. Foreign investors hoovered up the market through 2013 and 2014 and the market more than doubled by the summer of 2015. But foreigners became sellers again and through 2018 foreigners have sold Japanese stock more aggressively than any year this century, suggesting that once again the pace of change and subsequent growth of earnings is too slow for their liking.
I started going to Japan on investment trips in the mid 1990’s and although I don’t notice much day to day change, if I contrast Japan then with Japan now, the change is startling. On my first trip I remember coming out of a hotel elevator and being bowed to by a member of staff whose sole job was to bow at guests and to press the elevator buttons – it struck me how inefficient this was. Now Japan boasts a hotel where you can check yourself in and where robots deliver your luggage to your room. Change does happen.
One of the reasons we are positively inclined towards the stock market is the fact it offers a 7-8% earnings yield and a 2% dividend yield. This compares very favourably with the yield on 10 year Japanese bonds, which hovers just above zero, meaning the market’s dividend yield is almost 2% higher than the bond market. By way of contrast, the S&P index yields less than 2% and 10 year bonds in the US yield over 3%. The dividend yield pick up the Japanese equity market offers compared to bonds would not have been possible had two very significant changes not happened.
Firstly, the Bank of Japan has engineered rates on 10 year bonds down towards zero and for much of 2016 they actually operated a negative interest rate policy. This is remarkably bold for a conservative body such as the BoJ given their historic (albeit unfounded) fear of inflation and the pressure the politically connected banks, opposed to low rates, must have brought to bear. Secondly, companies have raised dividends and are changing their culture of hoarding cash. Tire manufacturer Bridgestone is a good example, as their dividend pay-out ratio has effectively doubled in the past five years. That said, with $5 bn of cash on their balance sheet, one could argue they could return even more to shareholders.
Change has gradually happened all across corporate Japan in recent years – more capital investment on automation, elimination of excess capacity, increased meritocracy, higher female participation (the female participation rate is now higher than the US) in the workforce have all been positive factors. Consequently Japan’s return on equity is now close to 10%, broadly in line with Europe, and profit margins are more than double where they were in the 1990’s.
On 13 x PER and 1.3x book Japan is attractively valued and we see more earning momentum there than in many other countries, especially as the yen continues to weaken. Ben Graham famously observed that the stock market gets too excited and too depressed, the same is true of foreigners investing in Japan. Because the change has been gradual it’s been frustrating, but sometimes fortune favours the brave (and patient).
Opinions and views from the Equities team at Kames Capital are not an investment recommendation, research or advice and should not be considered as such. Content discussing investment strategies and stocks is derived from and solely relates to the investment management activities of Kames Capital.
About the author
Robin Black is an investment manager within the global equities team. He has specific focus on Kames Japanese portfolios. Robin joined us from Macquarie Group, where he worked as global head of Pan-Asian sales in Hong Kong. He later returned to London, where he was tasked with establishing a global equity sales team. Prior to Macquarie, he worked for Deutsche Bank, Citigroup, Merrill Lynch and Martin Currie. Robin studied History and Economic History at the University of Aberdeen before obtaining an MSc in Project Analysis, Finance and Investment from the University of York. Additionally, he has an MSc in Investment Analysis from the University of Stirling. He has 23 years’ industry experience*.
*As at 30 September 2018.