Value investors will still find excellent valuations in Japan despite the market’s gains over the past several weeks. As I say again, in my latest exclusive at Seeking Alpha, “Investing in Japan Beyond the Platitudes,” the most interesting opportunities are in domestic-demand small/mid-cap companies. I’ve received a number of messages asking about WisdomTree’s hedged Japan Equity fund (DXJ). Yes, DXJ has done well, much better than iShares Japan (EWJ), in this rally. However, I’m not a big fan of DXJ for some of the same reasons I don’t like EWJ. Over 270 portfolio holdings for DXJ and 300 for EWJ mean outside of the top-few positions no one stock is really going to move the needle; the top holdings are not dissimilar from the benchmark indexes nor the one-trick pony mutual fund managers. Exporters are already cyclical and the demand/supply (selling) of their shares only makes them more cyclical — this is even more a concern should positions get closed en masse in DXJ given its smaller asset base that has surged only recently.
Finally, I don’t see the yen “blowing up” — it’s not as simple as some may wish or have been led to believe to see a currency like the yen or a country like Japan “blow up” in a straight line. Beware macro pontification coattailing. The great 2005 Nikkei rally saw a roughly 10% weakening of the yen. Overnight, Economy Minister Akira Amari warned excessive yen appreciation may benefit exporters but would hurt people’s livelihoods. The business press is concluding Minister Amari as having suggested the yen has weakened enough. In fact, too weak of a yen begins to hurt exporters if materials costs don’t start to decrease. In this sense, the input environment is quite different than ’05; ditto the strength of the global economy now vs. then.
Quite a rally in Japan over the past six weeks. I’m happy there’s some excitement about Japanese stocks but at the same time I’m worried the hot money and sentiment will prove truly ephemeral. Institutional investors in the U.S. are mostly one-trick ponies when it comes to Japan. I discuss this in my book. Retail investors often get burned going long iShares Japan (EWJ), not exactly their fault though with the sudden swarm of Japan pundits pitching long-Japan/short-yen, all paying obligatory homage to EWJ. For the record, EWJ is not the Nikkei (N225) and though it is a convenient proxy in conversation, it is a poor one in practice.
With that being said, Japan could remain the hot trade into 2013 but it’s worth knowing what’s going on, notably with the impact of the yen. Expectations seem to be quite high (too high!?) that inflation can be created and this will somehow right Japan’s ‘doomed’ economy. I’m doubtful of manufacturing real growth with money schemes. I also don’t believe Japan’s economy is doomed. In fact my favorite stocks are mostly domestic-demand companies. Grab a copy of my book if you haven’t already. Meantime, hope you enjoy my exclusive article at Seeking Alpha: “Real numbers and thoughts behind a weak yen and Japan’s exporters.” Best wishes in 2013!
Barron’s Kopin Tan writes about the Nikkei’s reversal this year in the International Trader – Asia section (first half discusses Prada’s valuation) of this week’s edition. After being the best-performing market in Q1, the Nikkei has slid 16% since its peak in late March. The vicissitudes of the market should not weigh on value investors. In a phone conversation I told Tan that the rallying and retreating is a recurring theme for Japan. I am thankful for the cheaper stocks and see excellent opportunity in domestic demand stocks, yes, the debt-ridden, deflation defatigued, and demographically doomed domestic economy. I’m being facetious of course. But as I watched fiscal year-end March earnings and the next fiscal year forecasts come in, there were more and more companies reporting and/or forecasting record earnings. The persistently strong yen is far from ideal, but take a moment and think about the fact that the majority of Japanese companies have remained profitable despite the horrible aftermath of 3/11, the severe flooding in Thailand only a few months later (manufacturing facilities impacted), and of course the ongoing uncertainty in the EU and elsewhere.
To learn all about investing in Japan (comprehensive A-Z overview of the nuts and bolts of the market and its players, as well as key idiosyncrasies and enigmas explained) including why the debt, deflation, and demographic fears are overblown, see my book, Investing in Japan. If you are currently investing in Japan by way of the iShares Japan ETF (EWJ) or another Japan-focused ETF or a mutual fund, you’ll definitely want to see how your money is actually being managed. Japan’s broadly undervalued market (0.9-times reported book value among large caps and significantly cheaper for smaller caps) and abundance of deeply undervalued (net-nets) and very attractively valued (“GARP”) stocks means there are multiple viable investment approaches. Don’t be misled by tunnel-visioned macro opinion jockeying at one extreme and pedantic fault-finding on the other. Shares of Unicharm (Tokyo: 8113), a leading Japanese diaper and hygiene product maker, rose four-fold last decade.
“China poised to pass Japan as world’s No. 2 economy,” reports CNN.com. Q2 GDP figures from Japan and China show the latter exceeding the former, $1.34 trillion vs. $1.29 trillion. In 2009, it was Japan ahead for the full year, at $5.07 trillion compared to China at $4.91 trillion, according to the IMF. Given the two lost decades now in Japan, this was only a matter of time. Jesper Koll’s (veteran Japan economy expert now with JP Morgan in Tokyo) simple forecast (see quote below) represents a real and substantial opportunity for Japan. This is not a new idea or sudden realization by any means, but it is far more tangible now than ever before; it is becoming more palpable given recent developments such as the Japanese government actively courting Chinese tourists.Continue reading
The DPJ’s rise (and the LDP’s fall) is no longer debate material, but a welcome reality. As expected, the yen exhibited strength, and looks poised to test ¥92. The Nikkei meanwhile was quite volatile, gapping up, hitting a new ytd high at 10,767, tumbling into the start of the afternoon session to a low of 10,423, to close down 0.4% at 10,492. The star of the day, if you will, was the Jasdaq, up 1% to 50.49, right around its ytd high. Of course, now that the DPJ is in power, the real challenge is to keep campaign promises and stick to them, even if there is near-term pain — rather than postponing the pain as has often been the case.
In terms of the markets and forex, the DPJ has almost certainly created a situation for further yen strength (and sustained relative yen strength after everyone piles into the trade and eventually moves on). Domestic-demand stocks, while not immune to certain negative externalities of a strong yen, are likely to be favored over exporters. The exporters, whether they like it or not, will have to get accustomed to a stronger yen. To summarize the first day of trading after Japan’s historic election, it is suffice to say that politics is front and center as it should be, but the market reaction was diluted by both a dose of reality and by the 6.7% selloff in Shanghai.
Pricey, and Japanese stocks, are typically not heard together in the same sentence. However, since last September’s market rout, earnings have deteriorated to the point that the Nikkei 225 is trading at over 175x forward earnings; 10.1x on a trailing basis. No doubt the ratio will swell some more, potentially going negative for a quarter, before it begins to ease. For some time now, I have believed that Japanese stocks are being priced fairly by the market. Still, it remains true that money managers the world over see deep value in Japan.
In order to prevent this article from getting long winded I will summarize my position as follows: (1) Recent trading has been ostensibly positive given the strong rally in percentage terms off the bottom, but the action has been quite thin; which leads me to point (2) in that the 9,000 level has proven pretty elusive due it being right about the middle point of last year’s finish and this year’s high (remember the N225 flirted with 6,000 a month ago); and (3) buying up headline exporters and bank stocks is the easy and obvious way to play, but lack of participation and depth in this rally will surely create a situation of more range bound trading between 7,000 and 9,000. Therefore, with all eyes on the U.S., and with the country’s financial magicians seemingly running out of rabbits, I would exercise caution at current levels. Aside from media cheerleading, last check the economic negatives far outweighed the positives.
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