This article is part of our World Cup 2018 Investment Series, one top market pick from each of the eight Groups – but instead of comparing sporting prowess we outline the best investment prospect.
Japan is one of the countries asset allocators have been uniformly positive on this year. It may have some challenging demographics, but stock pickers see this as an opportunity, rather than a challenge.
Combine this with improving corporate governance, and an under-researched market, and the case for Japanese equities is compelling.
As recently as February, the Investment Association Japan sector was one of UK investors’ favoured areas. However, appetite seems to be waning. The sector has now seen three consecutive months of net outflows, totalling more than £600 million.
And some experts have also changed their opinions on the market in the course of 2018. Ben Jones, senior multi-asset strategist at State Street Global Markets, says he began this year with a consensus positive view on Japanese equities.
“My expectation was that the earnings growth we saw last year, which was really good, would continue into this year and you’d get the strength of Japanese equities and strength of the yen,” he explains. “But we were wrong in that view.”
Jones says he expects to see higher inflation but stagnant wage inflation in markets across the world. This means that margins can continue to expand, alongside growing revenues – which will be positive for companies.
The one exception to this, according to his colleague, Marija Veitmane, is Japan. Here, they see the exact opposite dynamic. “Wage growth has been stagnant in Japan for a long time,” she says. “But now we’re seeing increasingly wage growth in Japan – wages are growing and we don’t see any inflation.”
This is negative for Japanese firms, as it puts pressure on their margins. As a result, Veitmane is seeing this coming through on earnings forecasts. “Reported earnings are missing expectations and earnings forecasts are getting slashed.”
But there are plenty still bullish. According to the Lloyds Bank Private Banking investor sentiment survey, investors are still bullish on Japanese shares. In fact, only emerging market shares, UK property, gold and commodities saw higher readings.
“Investors are positive on the right asset classes,” according to Markus Stadlmann, chief investment officer at Lloyds Bank. “The high readings for Japanese shares are supported by a strong investment case on the back of a solid economy and strong cash-flow growth by companies.”
How to Invest
For those in the positive camp, there are a number of different ways to access the Japanese market.
Morningstar analysts rate two exchange traded funds Gold, with Kenneth Lamont noting that passive funds have performed well in the Morningstar Japan Large-Cap Equity category. One reason for this is the large gap in fees between active and passive options.
Vanguard FTSE Japan (VDJP) is one of the best trackers around, according to Lamont. He says the FTSE index is a better proposition to the MSCI version due to its more diversified make up. It contains almost 500 firms, including mid and small caps. Its ongoing charge is just 0.19%.
iShares Core MSCI Japan IMI (IJPA) is also a stand-out offering in the category. The index, which is again larger than the vanilla MSCI version, has even more constituents – around 1,200. Its ongoing charge is 0.2%.
Four open-ended funds are rated Gold by analysts. These include two passive offerings, HSBC Japan Index and iShares Japan Equity Index. The two actively managed mandates have large-cap value biases.
Both Andrew Rose’s Schroder Tokyo and Stephen Harker’s Man GLG Japan Core Alpha are two of the best offerings in the Japan category, according to analyst Peter Brunt. Both have experienced management teams with impressive performance figures with double-digit 10-year annualised returns.
Rose also has a Gold rated closed-end fund in Schroder Japan Growth (SJG), which has returned in excess of 19% in each of the past three years.
Two Silver rated funds give good exposure to Japan alongside a broader spectrum of markets. Fidelity Pacific has more than a quarter of its portfolio invested in Japan, while Lindsell Train Global Equity has 22%.
The latter is run by Michael Lindsell, who also runs the firm’s Japanese Equity offering. Its high-conviction portfolio of 29 stocks has three Japanese companies – Shiseido, Nintendo and Kao Corp – in the top 10.
The Fidelity fund, managed by Dale Nicholls, is more diversified, and also has three Japanese companies in its top 10 – SoftBank, Universal Entertainment and ORIX.
Neither of these have long-term track records, but have delivered impressive three-year annualised returns of 22.7% for Lindsell and 15% for Fidelity.
