Is Japan at a turning point and what does it mean for investors?

by | Apr 25, 2024

In recent months, Japanese equities have surged to all-time highs, fuelled by factors including corporate reforms and foreign inflows. Now, what lies ahead?

Ernst Glanzmann, Investment Director at GAM Investments, Japan Equities, examines the current landscape, where growth expectations continue to ride high.

He said: “Japan has recently celebrated the conclusion of a nearly 20-year deflationary cycle, while the country’s shrinking population continues to be a matter of concern. Nonetheless, the ingredients for a positive long-term narrative remain and provide significant opportunities for investors.

“In March, the Bank of Japan made a historic decision by ending its controversial negative interest rate policy after 17 years. It has now raised its policy rate out of negative territory, establishing a new target range of 0.0-0.1%.

“Meanwhile, in February this year the Nikkei 225 stock index surpassed a previous peak reached 34 years ago, signalling renewed investor confidence in Japan’s economy and financial markets. The initial excitement was quickly followed by questions: Is the market once again in bubble territory?

“We believe that the surge in Japanese equities is not merely a repetition of a bubble; rather, it reflects a more balanced and sustainable economic expansion with moderate inflation.

“Semiconductor-related names and related sectors have been driving market performance, aligning with global trends of rapid advances in the use of artificial intelligence. The automotive sector, with its balanced product portfolio, is well-placed to capitalise on the shifts in preferences of consumers who are reluctant to commit fully to the purchase of electric vehicles. Finally, Japanese companies stand out for their highly varied machinery offering, which allows them to take advantage of trends in different global economic sectors.

“However, we are cognisant that Japanese stocks remain sensitive to fluctuations in the yen’s strength, and the market’s ties to the S&P 50. Central bank policies add to the volatility.

“Foreign investors have noticed significant advancements in Japanese firms, fuelled by enhanced corporate governance standards and efforts by the JPX Tokyo Stock Exchange to boost corporate stewardship. These improvements, along with a heightened emphasis on the cost of capital and a more shareholder-friendly approach to capital usage, have helped the recent rally.

“There is still room for these efforts to continue however, and restricted liquidity remains an issue. So, for now buying interest is still focused on larger capitalisation companies and market breadth has remained narrow.

“Despite these challenges, unique investment opportunities are emerging, enabling investors to acquire high-quality companies at reasonable prices. There was significant outperformance of value stocks in 2023, especially in the banking sector, but we believe certain growth stocks could play a prominent role from a long-term perspective. In many cases their earnings growth prospects shine brightly, but they have often been overlooked by investors in recent years.”

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