MARKETS & INVESTING
Since May of this year we have been overweight to Japanese equities , encouraged to increase our exposure by improving corporate governance dynamics that have supported a step change in share buybacks and dividend payments . This turn of events is the legacy of the late Shinzo Abe , Japan ’ s Prime Minister from 2006 to 2007 and again from 2012 to 2020 . Reforms that he instigated , which came to be widely known as ‘ Abenomics ’, sought to improve Japanese corporate profitability and capital efficiency . Now , a year on from his assassination , signs of fruition are emerging with capital efficiency improvements increasing the returns generated on investors ’ equity . In perhaps a fitting legacy , reforms continue . In April of this year , another policy move aimed at increasing Japanese corporate profitability was launched : Action Plan for Substantiation of Corporate Governance Reform1 . Key within this is the Tokyo Stock Exchange ’ s requirement for firms to disclose risk-taking plans and measures taken to achieve growth while keeping profitability in mind . In particular , firms with a price-to-book ( P / B ) ratio below 1x will be flagged and requested to ‘ properly identify ’ their cost and efficiency of capital .
Japanese P / B per RoE premium to global peers
As at the end of July , Japanese equities had rallied almost 16 % since this announcement , outpacing global equities in local terms by 5 % 2 . Naturally , questions have emerged around whether the potential upside is now factored into prices . We note that the premium in terms of P / B per unit of return on equity ( RoE ) of Japanese stocks versus non-US global peers has increased . However , it has only moved to the extent that a 0.5 % increase in RoE would shift this back to median levels . Our Global Equity team have flagged that the magnitude of cash on some Japanese firms ’ balance sheets provides clear opportunities to increase RoE by around 5 %. As such , we do not view the prevailing Japanese rally as overextended .
Supportive tailwinds Aside from the long-term reform-driven upside for Japanese equities , we also see medium-term tailwinds from both the domestic and external environment . On the domestic front , lingering COVID-19 restrictions into 2022 set a low starting point for activity , relative to other regions . Today , consumer confidence has recovered , household balance sheets are healthy and domestic consumption still has room to improve before it reaches pre- Covid levels . The scope for Japan ’ s tourism industry to continue improving , relative to 2019 levels , is also notable . From an external perspective , the case can be made for an upcoming period characterised by a change to the typical inverse Japanese yen and Japanese earnings relationship . Increased non-Bank of Japan key developed market central bank rates have reduced global-growth expectations and associated cyclical Japanese earnings expectations , while depreciating the yen through increased rate differentials . From here , with rate differentials expected to gradually reduce from both sides , alongside a potential bottoming of the global cycle , the case can be made for an appreciation in the yen alongside an increase in Japanese earnings . This provides an attractive set-up for non-yenbased investors such as us . In a globalised world , where tying regional equity market performance to regional economic outcomes can be difficult , a unique set of catalysts should specifically benefit Japanlisted companies .
1 Japan Financial Services Agency , Action Program for Accelerating Corporate Governance Reform : From Form to Substance , 26 April 2023 2 Source : Bloomberg , 9 August 2023
Important Notes . The value of investments and any income derived from them can go down as well as up as a result of market or currency movements and investors may not get back the original amount invested . Views and opinions expressed by individual authors do not necessarily represent those of Columbia Threadneedle Investments . Past performance should not be seen as an indication of future performance .
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