May 2008

JAPAN: Fishing for fortune

Japan is modernising its corporate governance policy and ending uncompetitive practices. The Japanese people, however, are still investing elsewhere, and the country's investment future remains uncertain, writes Nick Fitzpatrick ... Dr Mark Mobius, the luminary emerging markets investor, revealed recently that his portfolio holds a stake in Komatsu Ltd, the world’s second largest mining and construction equipment supplier after Caterpillar in the US. Mobius, executive chairman at Templeton Asset Management, bought Komatsu, a Japanese firm, after spotting what he believes are good opportunities in developed-market companies that have deep exposure to emerging markets. 

With his stake in the firm, Mobius is using a Japanese company to access the wider Asian growth story. Komatsu, which makes the world’s largest bulldozer, expects greater demand for its goods from Asian customers, particularly China and India, while demand from the US and Europe declines. 

That China is a driver for Japan is not new. But what is interesting is that corporate governance-keen Mobius has taken a punt on a Japanese company to access wider Asia when Japanese firms in the past have been found wanting of robust corporate governance procedures thanks to a ‘jobs for life’ policy and other uncompetitive practices.

Good news for Japan
Mobius’s green light for Japanese stocks should be good news for Japanese fund managers trying to sell Japanese equities to European investors, which has been a near thankless task in recent years. Dogged by a long recession, the country has paled into insignificance as an Asian marketing story next to China and India, and now even smaller Asian nations like Vietnam and Taiwan are raising their profile while Japan still struggles for a hook to grab investors’ attention.

Until recently, Japanese housewives dabbling in currency trading were all that the markets had to offer in terms of a supposed success story, but this was of little use to fund managers.

Japan money managers, such as Nikko Asset Management and DIAM, are now trying to persuade investors to take another look at the market, both within the context of Asian growth, but also on the basis of standalone features such as better valuations and greater corporate governance within Japanese firms.

Speaking to Funds Europe, Charles Beazley, president of Nikko Asset Management Europe, says: “Japan and China are very important to each other. Combined, they are 50% of the GDP of the region.

“Investors have benefited hugely from China and also from India. Japan is the last part of the pie.”

Peter Swarbreck, head of Asia at BlackRock, described Japan, along with India and China, as a key area of opportunity when speaking at the Fund Forum Asia conference in April, and said that rising asset prices and allocations to Asia will be a long-term trend.

Hideto Yamamoto, DIAM’s London-based chief investment officer, mentions that Vietnam and Indonesia’s economies are also benefiting Japan.

But how much of this macro influence has filtered down to the Nikkei 225 benchmark? The main index of Japanese share prices is still off its 1989 peak by around 59%, while companies have for a long time been viewed as overvalued.

Yamamoto says this is changing. “Japanese equities are now attractively valued relative to other comparable markets and compared to historic P/E ratios, which have fallen from an average of 15-20 a few years ago, to a forecasted 14.2 for 2008 and 12.9 for 2009.”

This, he says, puts them on par with the US and makes them even cheaper than other emerging markets. Nikko’s Beazley adds: “In February there were  approximately 270  companies in Japan with more cash on their balance sheets than their market valuation. This doesn’t usually happen. It feels like a deep value play.”

Japan’s companies have always been clouded by a stuffy corporate image, typified by the ‘jobs for life’ policy, which was blamed for low productivity. But its culture of corporate governance is changing, says Beazley, making companies more competitive.

“We can see which companies have changed and which haven’t. We vote every stock and have an opinion on every company of ours.

“There are still, frustratingly, companies that do not engage in the way that you would like them to. But some are more cognisant now of their shareholders and are steadily increasing their dividends.”

Nikko, which was established in 1999 as the result of a merger, is itself a reflection of the broader changing corporate culture. Lifetime employment and job rotation were ended under the firm’s leadership of Tim McCarthy and Bill Wilder. Investment managers were liberated from writing reports and their pay, along with analysts’ pay, became linked to performance.

“We wanted to match ourselves against the greatest Japanese companies we could think of rather than just Japanese fund managers,” says Beazley.

Yamamoto, at DIAM, says of the corporate sector that Japanese companies remain attractive and competitive globally. “In Japan we can easily find competitive companies in growing areas such as domestic services, environment, BRICs and other new technology-related industries, which have not been as negatively affected by the US as some other sectors.”

Seeking investors
So the buying signals may be present, but are the investors?

According to Beazley, Nikko has raised $2bn of assets under management for its Japan equities funds from clients in Europe, the Middle East and the USA in the last seven months, including from Cardiff & Vale of Glamorgan Pension Fund, a local authority scheme in the UK.

DIAM, which is a joint venture between Mizuho Financial Group and Dai-ichi Life Insurance Company, and also established in 1999, is the largest public pension manager in Japan with US$32bn invested in Japanese equities out of $100bn in total. It has put on around $2.5bn in assets under management since 2004 from European and Middle Eastern clients, mainly in a Japan alpha product.

In Japan itself, households are still undergoing a savings-to-investments shift. But Japanese equities are not always the major beneficiaries as local investors buy assets outside the country.

Tim McCarthy, the chairman and CEO of Nikko Asset Management in Japan, says: “The Japanese are looking at other countries like themselves in Asia and saying, ‘I want to buy those companies rather than my grandfathers’ companies’.” He also says that the Japanese are buying multi-asset classes more than elsewhere in Asia.

His colleague Beazley adds: “Investors have probably been ready to invest more in south-east Asian economies because these markets have been growing more than Japan.”

The issue is significant enough for Nikko to have launched a campaign, called Nippon Plus, aimed at reminding Japanese investors about domestic equities.

But Yamamoto, at DIAM, says Japanese domestic investors are now starting to be net purchasers in the market, which is encouraging.

Yet he also notes that the privatisation of former public institutions may not yet have led to a surge in equity investments, but it is widely expected that their asset allocation is changing to include riskier asses such as stocks, he says.

However, McCarthy says: “A lot of us are looking at the global liquidity crisis. It’s going to be the low-risk products [that are the key products over the next two years].”

To some extent, then, there appears to be mixed signals about whether to invest in Japanese capital markets, or to build a local asset management business there. But this is still better than no signals at all.

Mobius has spotted the potential, but has subsumed Japan into a wider emerging Asia portfolio. Perhaps this signals that Asian investment mandates, which are typically marketed as ‘Asia (ex Japan)’ mandates, need to drop the bit in brackets, and let Japan get whisked away with the rest of Asia.
© 2008 funds europe 

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