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A revival in Japan?

5th June, 2019

Against all expectations, the Japanese economy grew at robust pace of 2.1% in the first quarter of 2019. Most economists had expected a contraction and it underscores the belief of many fund selectors that there may be real value in Japan stock markets.

• Fund selectors believe Japan looks cheap as corporate reform is    reflected in share prices.
• However, the controversial new sales tax may disrupt the                  economy
• There remain vulnerable areas of the economy such as exports

Jupiter’s John Chatfeild-Roberts, for example, this week said that Japan is the cheapest market in the world “by a significant margin” with real potential for companies to increase their dividend payouts.

Part of this enthusiasm comes from the potential for reform of the country’s torpid corporate culture. The typical Japanese company has long existed to support the country’s ‘jobs for life’ social structure, rather than being run for the good of shareholders. However, new efforts at corporate reform – Abe’s third arrow – are forcing change on even the most recalcitrant of companies.

A number of fund managers have based their entire strategy on it – including Joe Bauernfreund on AVI Japan Opportunity Trust and the CC Japan Income & Growth trust. These strategies target companies with huge cash balances, endemic in Japan, that may start to improve their payouts to investors under new corporate rules.

However, Japanese policymakers have a knack for self-harm. The recent boost to the economy raises the prospect that the government will press ahead with the controversial hike in the sales tax (Japan’s equivalent of VAT). Last time it did this, it plunged the economy into recession; yet it appears determined to do it again.

At the same time, while the GDP figures were stronger, there were some vulnerable areas in the Japanese economy. It has seen a slowdown in its main export markets, especially in China and this is likely to be exaggerated by the trade war. Consumption was already weak and could get weaker if the sales tax goes ahead. In the meantime, business investment also declined.

That said, the economy is not the stock market. There is an argument that if a company can thrive in Japan, it can thrive anywhere. These companies have seen tougher times than almost anywhere else in developed markets and, as Chatfeild-Roberts points out, valuations are cheap. No-one expects the Japanese economy to do very much, so any surprises are a bonus.

Everything happens slower than expected in Japan. However, there is reform and as investors start to recognise it, it should slowly be reflected in share prices. The countries holds some interest for the patient investor.

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