Japan: Olympic host’s equity market is uniquely positioned
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Japan: Olympic host’s equity market is uniquely positioned

With the Tokyo Olympics scheduled to take place later this month, all eyes will be on Japan this summer. While there has been a backlash from the Japanese public as a result of Covid-19 concerns, the intentions of the International Olympic Committee remain in support of the games going ahead. Given this uncertainty has already been priced into Japan’s market, whether the games are staged or not has little impact on our portfolio.

Alongside the Olympic narrative, the re-opening trade has continued to make headlines in the media. This has been a hot topic for markets globally, although economies are opening up at different speeds regionally. Given lagged vaccination, Japan has underperformed global peers year-to-date, although we can expect this gap to narrow as the domestic vaccine rollout gathers momentum. Sentiment will be further supported by the uptick in earnings revisions, commodity reflation and a latent capex boom.

Over the long term we still believe Japanese equities are uniquely positioned to capitalise on both cyclical tailwinds – accelerating vaccination rollout and sensitivity to the global growth recovery – and structural tailwinds – beneficiaries of evolving technology and corporate governance reform as a game changer – at attractive valuations.

Pick-up in vaccination rollout

From a Covid perspective, Japan has one of the lowest mortality rates globally versus other countries. Figure 1 shows Japan death rates are significantly lower versus other regions, highlighting its effective handling of Covid. In fact, the total number of deaths in Japan in 2020 was less than that in 2019, which is a testament to its effective containment measures.

Figure 1: Covid-19 mortality rates (per 100,000)

Japan europe graph

Source: One World in Data, January 2020–June 2021

Partly because of this success, Japan’s vaccination rate has been lower than other major countries, but the vaccination rate started to pick up considerably in May (Figure 2).

Figure 2: Daily vaccinations as a percentage of population

Uk us germany colorful graph

Source: Goldman Sachs, June 2021

We have witnessed a positive correlation between the pace of vaccinations and equity market returns globally, and with Japan’s vaccination rate recently exceeding the 10% mark we believe this will help the index catch up with that of the US and Europe. If vaccinations progress in line with the government targets of one million doses a day, Japan should be able to achieve herd immunity later this year – which may be priced into the equity market sooner rather than later.

Pent-up savings a tailwind for the domestic economy

As a cooped-up global population is allowed back outside, we believe the positive trends in economic activity will continue. This will be supported by pent-up savings accumulated during the extended lockdown, as well as extraordinary government stimulus around the world. Japan’s households have put spending on hold during the pandemic – with cash savings having grown by $390 billion since Q4 2019 – which has resulted in a further increase of household financial assets to $17 trillion.1 Alongside these pent-up savings, employee compensation levels have returned to pre-Covid levels, which will boost consumption. Given this favourable backdrop we can expect the domestic economy to really hit its stride with accumulated savings deployed as the economy continues to re-open.

Japan as a key beneficiary of global recovery

Given Japan’s sensitivity to the global cycle is higher than most countries, the economy should be a key beneficiary of synchronised global recovery in 2021 with the expectation that domestic corporate earnings growth will rebound. More than 50% of the MSCI Japan Index falls under three sectors: industrials, information technology, and automotive-heavy consumer discretionary. This implies that the composition of the index helps investors enjoy superior returns when global growth starts to improve. If we view this from a style perspective, the weight of value stocks in Japan is almost double that of the global standard, with Japan the best performing market during global value rallies since 2010. We can therefore expect the current environment to provide investors with an attractive risk-reward trade off.

Healthy earnings recovery supported by attractive valuations

With the Japanese equity market one of the best performers over the past 10 years versus other global regions, it’s important to highlight that returns have been driven by earnings growth, unlike the material contribution from P/E multiple expansion in the US.

Japanese corporate earnings in 2021 are expected to grow around 25% year-on-year, while valuations remain attractive. Approximately half of Japanese companies in the Tokyo Stock Exchange Index are trading below book value and half of non-financial companies are net cash, which is significantly higher than that in the US and European equity markets. So, clearly, Japan is one of the most attractively priced equity markets globally.

Figure 3: % of stocks trading below book value (lhs); % of non-financials that are net cash (rhs)

Topix be 500 s and p 500 graph

Source: Nomura, March 2021. Indices shown include S&P500, BE500 and TOPIX

Unearthing hidden gems in Japan’s investment universe

We believe Japan is often overlooked by global investors – partly because of its lacklustre economic growth and aging population – despite offering a deep investment universe of high-quality companies that generate sustainable earnings growth. We believe it is precisely those high-quality and dominant franchises that can sustain strong and consistent earnings growth without relying on leverage or macro conditions. Often, these companies incorporate a combination of innovation, disruption, overseas expansion and a strong focus on return on invested capital.

With innovation a big focus for us, we seek to identify companies with leading technologies, strong branding power and unique business models. Japan’s investment universe is rich with these kinds of companies that have dominant market share in industries driven by secular growth: factory automation technology, medical equipment and semiconductor products to name a few. We continue to identify companies in the following areas where we see long-term structural opportunities:

Automation and robotics: With Japan a global leader in robotic and automation technology, we expect a global aging demographic to support trends in automation, remoteness and digitalisation of social infrastructure which is a structural tailwind for companies such as Keyence, Fanuc and Yaskawa. With automation allowing companies to devote fewer human resources to physical jobs, this enhances productivity and profitability to core operations.

Strong consumer brands: On the consumer side, Japanese brands have a vast market on their doorstep with strong demand across Asia – and are key beneficiaries of the rising middle class across the region with more disposable income. We can gain exposure to these markets through investing in quality Japanese companies – Toyota, Sony and Shiseido – where products are extremely popular due to their focus on quality and innovation.

Software revolution Japan: has recently put greater focus on embracing the use of innovative software solutions given western economies such as the US and the UK are ahead in the adoption of cloud computing technology and digitalisation. The adoption of such technology can help transform Japan’s economic and corporate landscape for the better, helping to alleviate labour shortages, boost productivity and economic growth, while also improving corporate competitiveness and profitability. As the rollout continues, we expect this to give rise to many long-term investment opportunities across areas such as ecommerce, cloud-based business software and cashless payment solutions – with companies such as Z Holdings, Freee and GMO Payment Gateway among key beneficiaries.

Corporate governance reform

Japan’s corporate governance reform has taken a leap forward following a published proposal for the revision of Japan’s Corporate Governance Code and Guidelines for Investor and Company Engagement. The proposal marks another step forward in the evolution of the corporate structure of Japanese companies. The main points of the proposed revisions include enhancing board independence, promoting its diversity, attention to ESG and improving capital management policy.

With Japanese corporates consistently increasing dividends and share buybacks as a result of positive corporate governance reform, we believe the trend of returning excess cash to shareholders and investing capital for future growth is back on track – which is expected to significantly contribute to a higher return on equity.

20 July 2021
Daisuke Nomoto
Daisuke Nomoto
Global Head of Japanese Equities
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Japan: Olympic host’s equity market is uniquely positioned

1 Bank of Japan. Flow of Funds for the First Quarter of 2021.

Important information

Important Information: For use by Professional and/or Qualified Investors only (not to be used with or passed on to retail clients). This is an advertising document. This document is intended for informational purposes only and should not be considered representative of any particular investment. This should not be considered an offer or solicitation to buy or sell any securities or other financial instruments, or to provide investment advice or services. Investing involves risk including the risk of loss of principal. Your capital is at risk. Market risk may affect a single issuer, sector of the economy, industry or the market as a whole. The value of investments is not guaranteed, and therefore an investor may not get back the amount invested. International investing involves certain risks and volatility due to potential political, economic or currency fluctuations and different financial and accounting standards. The securities included herein are for illustrative purposes only, subject to change and should not be construed as a recommendation to buy or sell. Securities discussed may or may not prove profitable. The views expressed are as of the date given, may change as market or other conditions change and may differ from views expressed by other Columbia Threadneedle Investments (Columbia Threadneedle) associates or affiliates. Actual investments or investment decisions made by Columbia Threadneedle and its affiliates, whether for its own account or on behalf of clients, may not necessarily reflect the views expressed. This information is not intended to provide investment advice and does not take into consideration individual investor circumstances. Investment decisions should always be made based on an investor’s specific financial needs, objectives, goals, time horizon and risk tolerance. Asset classes described may not be suitable for all investors. Past performance does not guarantee future results, and no forecast should be considered a guarantee either. Information and opinions provided by third parties have been obtained from sources believed to be reliable, but accuracy and completeness cannot be guaranteed. This document and its contents have not been reviewed by any regulatory authority.

In Australia: Issued by Threadneedle Investments Singapore (Pte.) Limited [“TIS”], ARBN 600 027 414. TIS is exempt from the requirement to hold an Australian financial services licence under the Corporations Act and relies on Class Order 03/1102 in marketing and providing financial services to Australian wholesale clients as defined in Section 761G of the Corporations Act 2001. TIS is regulated in Singapore (Registration number: 201101559W) by the Monetary Authority of Singapore under the Securities and Futures Act (Chapter 289), which differ from Australian laws.

In Singapore: Issued by Threadneedle Investments Singapore (Pte.) Limited, 3 Killiney Road, #07-07, Winsland House 1, Singapore 239519, which is regulated in Singapore by the Monetary Authority of Singapore under the Securities and Futures Act (Chapter 289). Registration number: 201101559W. This document has not been reviewed by the Monetary Authority of Singapore.

In Hong Kong: Issued by Threadneedle Portfolio Services Hong Kong Limited 天利投資管理香港有限公司. Unit 3004, Two Exchange Square, 8 Connaught Place, Hong Kong, which is licensed by the Securities and Futures Commission (“SFC”) to conduct Type 1 regulated activities (CE:AQA779). Registered in Hong Kong under the ce (Chapter 622), No. 1173058.

In the UK: Issued by Threadneedle Asset Management Limited, registered in England and Wales, No. 573204. Registered Office: Cannon Place, 78 Cannon Street, London EC4N 6AG. Authorised and
regulated in the UK by the Financial Conduct Authority.

In the EEA: Issued by Threadneedle Management Luxembourg S.A. Registered with the Registre de Commerce et des Sociétés (Luxembourg), Registered No. B 110242 44, rue de la Vallée, L-2661 Luxembourg, Grand Duchy of Luxembourg.

In the Middle East: This document is distributed by Columbia Threadneedle Investments (ME) Limited, which is regulated by the Dubai Financial Services Authority (DFSA). The information in this document is not intended as financial advice and is only intended for persons with appropriate investment knowledge and who meet the regulatory criteria to be classified as a
Professional Client or Market Counterparties and no other Person should act upon it.

In Switzerland: Threadneedle Asset Management Limited. Registered in England and Wales, Registered No. 573204, Cannon Place, 78 Cannon Street, London EC4N 6AG, United Kingdom. Authorised and regulated in the UK by the Financial Conduct Authority. Issued by Threadneedle Portfolio Services AG, Registered address: Claridenstrasse 41, 8002 Zurich, Switzerland.

Columbia Threadneedle Investments is the global brand name of the Columbia and Threadneedle group of companies.

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Important information

Important Information: For use by Professional and/or Qualified Investors only (not to be used with or passed on to retail clients). This is an advertising document. This document is intended for informational purposes only and should not be considered representative of any particular investment. This should not be considered an offer or solicitation to buy or sell any securities or other financial instruments, or to provide investment advice or services. Investing involves risk including the risk of loss of principal. Your capital is at risk. Market risk may affect a single issuer, sector of the economy, industry or the market as a whole. The value of investments is not guaranteed, and therefore an investor may not get back the amount invested. International investing involves certain risks and volatility due to potential political, economic or currency fluctuations and different financial and accounting standards. The securities included herein are for illustrative purposes only, subject to change and should not be construed as a recommendation to buy or sell. Securities discussed may or may not prove profitable. The views expressed are as of the date given, may change as market or other conditions change and may differ from views expressed by other Columbia Threadneedle Investments (Columbia Threadneedle) associates or affiliates. Actual investments or investment decisions made by Columbia Threadneedle and its affiliates, whether for its own account or on behalf of clients, may not necessarily reflect the views expressed. This information is not intended to provide investment advice and does not take into consideration individual investor circumstances. Investment decisions should always be made based on an investor’s specific financial needs, objectives, goals, time horizon and risk tolerance. Asset classes described may not be suitable for all investors. Past performance does not guarantee future results, and no forecast should be considered a guarantee either. Information and opinions provided by third parties have been obtained from sources believed to be reliable, but accuracy and completeness cannot be guaranteed. This document and its contents have not been reviewed by any regulatory authority.

In Australia: Issued by Threadneedle Investments Singapore (Pte.) Limited [“TIS”], ARBN 600 027 414. TIS is exempt from the requirement to hold an Australian financial services licence under the Corporations Act and relies on Class Order 03/1102 in marketing and providing financial services to Australian wholesale clients as defined in Section 761G of the Corporations Act 2001. TIS is regulated in Singapore (Registration number: 201101559W) by the Monetary Authority of Singapore under the Securities and Futures Act (Chapter 289), which differ from Australian laws.

In Singapore: Issued by Threadneedle Investments Singapore (Pte.) Limited, 3 Killiney Road, #07-07, Winsland House 1, Singapore 239519, which is regulated in Singapore by the Monetary Authority of Singapore under the Securities and Futures Act (Chapter 289). Registration number: 201101559W. This document has not been reviewed by the Monetary Authority of Singapore.

In Hong Kong: Issued by Threadneedle Portfolio Services Hong Kong Limited 天利投資管理香港有限公司. Unit 3004, Two Exchange Square, 8 Connaught Place, Hong Kong, which is licensed by the Securities and Futures Commission (“SFC”) to conduct Type 1 regulated activities (CE:AQA779). Registered in Hong Kong under the ce (Chapter 622), No. 1173058.

In the UK: Issued by Threadneedle Asset Management Limited, registered in England and Wales, No. 573204. Registered Office: Cannon Place, 78 Cannon Street, London EC4N 6AG. Authorised and
regulated in the UK by the Financial Conduct Authority.

In the EEA: Issued by Threadneedle Management Luxembourg S.A. Registered with the Registre de Commerce et des Sociétés (Luxembourg), Registered No. B 110242 44, rue de la Vallée, L-2661 Luxembourg, Grand Duchy of Luxembourg.

In the Middle East: This document is distributed by Columbia Threadneedle Investments (ME) Limited, which is regulated by the Dubai Financial Services Authority (DFSA). The information in this document is not intended as financial advice and is only intended for persons with appropriate investment knowledge and who meet the regulatory criteria to be classified as a
Professional Client or Market Counterparties and no other Person should act upon it.

In Switzerland: Threadneedle Asset Management Limited. Registered in England and Wales, Registered No. 573204, Cannon Place, 78 Cannon Street, London EC4N 6AG, United Kingdom. Authorised and regulated in the UK by the Financial Conduct Authority. Issued by Threadneedle Portfolio Services AG, Registered address: Claridenstrasse 41, 8002 Zurich, Switzerland.

Columbia Threadneedle Investments is the global brand name of the Columbia and Threadneedle group of companies.

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