Emma Wall: Hello and welcome to Morningstar. I'm Emma Wall and I'm joined today by James Salter, Head of Japanese Equities for Polar Capital.
Hi, James.
James Salter: Hello.
Wall: So, the Japan Index has gone from 8,000 to 20,000 which I suppose begs the question have we missed the boat, is it too late to invest?
Salter: I think the easy money has been made. The low-hanging fruit that we saw at the beginning of 2013 is probably finished. You could have bought 70%, 80% of the stocks in the Japanese market below breakup value. You now probably find about 45% of them are below breakup value. But Abenomics is still alive and well I think. There is a short-term hiccup with the global economy having had quite a profound impact on Japanese exports.
Hence the yen is strengthened with concerns about the U.S. economy and the Chinese economy and U.S. economy perhaps seeing less interest rate rises than previously anticipated. But I think the fundamental story with Japan and with corporate governance and with value investing is still very much alive.
Wall: You mentioned value investing there and indeed, the low-hanging fruit has been picked. Why has there been this divide then in the Japan market and what should we be looking at?
Salter: I think there has been an enormous divide between bond proxy stocks which – there has been a lust for yield in a low-growth environment. Now that predicates and it turns its head on the fact that low growth will persist to infinity. So, many of these stocks are priced I think for growth to infinity. So, you can take companies like PeptiDream, which is a biotech company, which trades at nearly 500 times earnings and trades on 50 times book value.
Or you can go down a cyclical route and find a really quite good cyclical company that might trade on seven times earnings. It may really trade on eight or nine times because it will miss its numbers, but it will yield over 3% and it will have 30%, 20% of its market cap in net cash.
So, again, it's very much by your time duration. I think if you are looking for momentum and fresh fish in the fridge today, you are going to buy PeptiDream. If you're taking a different long-term view, you're probably going to say these are some very good companies who happen to be going through a cyclical downturn but it's not a dramatically vicious downturn and yet, if you look at cyclical price-to-books relative to domestic defensive price-to-books, domestic defensive price-to-books are trading at 10, 15-year highs.
Wall: So, it sounds like it's a stock pickers market then?
Salter: It potentially could be. At the moment, it is all about momentum. So, it is all about have you beaten your profit numbers? Can you exhibit growth in a "low-growth" environment "in perpetuity?" I think the proof will be in the pudding.
Wall: Talking then about Abenomics, you did mention that earlier. I think, Abe, a poor guy, has gone from the knight in shining armor to sort of the naysayers say, Abenomics hasn't worked. It's over; we're done; we're out. Where do you stand?
Salter: Well, I think you have to look back to 2012 and you have to look at how critical the situation was in 2012. They were staring into the abyss both economically from a stock market perspective, from a sociopolitical point of view. There was constitutional reform which needed dealing with and it's still undergoing a debate as to when that constitutional reform is going to come through. It's very much part of Abe's plan and his family's grandfather's plan.
But Japan was in a hell of a pickle. Abe said I'm going to be the man who normalizes the Japanese economy. He has gone part of way to doing that. We've moved from deflation to mild inflation, very similar to a lot of other world economies. The stock market is over doubled. Economic growth over the last four years has been 6%. So, it's actually been relatively strong compared to other world economies and the unemployment rate has fallen from 5% or 6% down 3%.
Wall: Four simple measures which seemed unobtainable not that long ago for Japan?
Salter: Absolutely. So, again, he would argue that if you take a five to seven-year view and you go through dramatic quantitative easing like the States did, again, if you listen to someone like Reinhart and Rogoff, they will tell you that you have to wait quite a long time for the benefits to start to come through. So, I would say, what score would you give Abe? You'd probably give him 6 out of 10, honestly speaking, but that's a lot better than nothing.
Wall: James, thank you very much.
Salter: Pleasure.
Wall: This Emma Wall for Morningstar. Thank you for watching.
