Back in December I wrote that I expected Shinzo Abe to be elected prime minister of Japan and that when he was, the yen would plummet and the market soar: those of us invested would then lose on the currency, but “make a whole load more on the market”.
Abe was duly elected and the yen has fallen 18% on a trade-weighted basis – rather less against the pound – and the Nikkei 225 index has risen well over 20% (35% if you look back to the middle of November). That’s not all – the smaller indices have gone nuts with the Mothers index of small caps up 52% and the Jasdaq up 40% this year alone.
Retail investor activity in Japan is at its highest level for six years (Japan’s stock market bible, the Kaisha Shikiho, is said to have sold out completely), while foreigners are piling in at the their fastest rate since 2004.
This would obviously be more impressive if I had not been predicting a huge loosening of Japanese monetary policy and a surge in the stock market for well over four years. And it will only remain mildly impressive if it keeps going. Not everyone is convinced it will.
The general view is that the key to success for Japan is not just a weak currency (which helps by cutting export prices) but the creation of growth and the banishing of deflation for good. In this sense, history, says Mouhammed Choukeir of Kleinwort Benson, is not on Japan’s side. There are three reasons why.
The first comes down to previous Bank of Japan failures. It has recently introduced a new inflation target, but given that it never managed to hit its previous target of 1%, “what chance does it have of achieving 2%?”
The second is all about politics. Shinzo Abe “might not be prime minister long enough to execute his plans”, given that, since 1989, the average tenure for a prime minister in Japan has been about 1.2 years (this is Abe’s second go at the job).
Finally, says Choukeir, “Japan’s trade partners are unlikely to sit idly by and watch their currencies strengthen while their own economies are moribund”. So the yen won’t stay weak for long.
These are all excellent arguments against a recovery for Japan. We should, of course, bear in mind that, on the surface at least, there isn’t much to differentiate Abe from Japan’s long list of failed leaders. Every few years a PM with potential is elected in Japan, the yen falls, the market rises and the likes of me get excited; then the political infighting kicks off, the PM gives up, the yen rises, the market falls and we swear we won’t be pulled in again.
However, this time around these arguments might all be wrong.
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Let’s look at inflation. The falling yen helps with this by pushing up import prices. But on top of what has come so far, we know that the first of what Abe calls his “three arrows” is pushing the Bank of Japan into massive monetary stimulus (the second is fiscal stimulus and the third to push private sector investment into creating growth).
We also know that there is increasing pressure on companies to raise overall pay. The likes of Toyota, Yahoo Japan and Honda have all put up bonuses significantly recently (5% is a lot in a country with no inflation), while everyone working at the convenience store chain 7-Eleven has seen a real rise in their base salaries (around 3%). Governments who are determined to create inflation rarely find it impossible.
Abe looks determined – he also looks as if he will be around for a lot longer than 1.2 years. He has his favourites in his cabinet and in the Bank of Japan (his nominations for the top three jobs were approved by parliament last week with Haruhiko Kuroda now to take up his role as governor on 30 March), and a very high popularity rating.
On the third point, those who think that the US won’t allow Japan to devalue their currency against the dollar should note that it already has. It is not in America’s interests for Japan to be weak as China gets stronger. That makes it in its interests to support any policies that might get Japan moving again, be they the falling yen or Japanese participation in the US-led talks on a trans-Pacific free-trade agreement (the Trans-Pacific Partnership, or TPP).
Look at it like that and Abe might actually turn out to be that very rare thing: a political leader who gets to put in place the policies he wants, rather than the watered down, compromised and corrupted policies that most leaders end up with.
Japan’s market is also a rare thing – it is still cheap, it is very under-owned (only 10% of Japanese household wealth is in shares) and, due to the falling yen, it is jammed with good companies that are now likely to see sudden and huge rises in profitability. You don’t get that often in a low-growth world.
If you are a believer in the US recovery, you might also remember that Japan is one of America’s biggest trading partners: if the US continues to do well, so will Japan. History might not be on Japan’s side, but current events surely are.
If you want a good general Japan fund, you might look at the Baillie Gifford Japan Trust – particularly given that it has reduced its fees: the management fee is now 0.95% on the first £50m in the trust and 0.65% on the rest. (Disclosure: I am on the board of a separate Baillie Gifford trust.)
By the way, if you do buy Japan, you won’t be the only foreigner to be doing so. Numbers from broker CLSA show that China’s sovereign wealth fund – The Chinese Investment Corporation – has bought $45bn worth of Japanese equities in the last five years. China now owns nearly 2% of listed Japan. The interaction of politics and economics – never simple is it?
• This article was first published in the Financial Times.
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