Business puts the case for Japan, argues Neptune’s Chris Taylor
Although the government may fail to impress, plenty of evidence suggest strength across the corporate landscape, says Chris Taylor, head of research and fund manager of the Neptune Japan Opportunities fund.
Japan’s situation is summarised by the annual World Economic Forum Report released on the 7 September 2011, in which 142 countries are reviewed to determine their competitiveness.
Japan came in at 9th out of 142 overall. The business community was a clear 1/142, in complete contrast to Japan’s government, which ranked near the bottom, being 142/142 due to the level of debt outstanding at 220.3% of GDP and 135/141, due to the size of its annual budget deficit.
What remains in Japan’s favour is the misunderstood and undervalued corporate sector that makes selective investment in Japanese stocks attractive.
Similarly, the still deteriorating Japanese national fiscal position, worsened by the earthquake, is combined with little political will to tackle the problems.
The constant, almost annual change in prime minister and the hung parliament will likely continue until 2013’s general election.
In Japan, unlike many other OECD countries, the worsening debt level is all to do with demographic trends and nothing to do with the credit crunch.
Investors have failed to appreciate the underlying changes that have occurred across the Japanese corporate population.
En masse, they have invested heavily outside the OECD, have cut their yen breakeven sales figure by 13% or so over the past three years, and despite the yen’s sustained strength over that period have lifted their overall profitability back to where it was before the credit crunch.
This reflects the domination by Japanese firms of many worldwide sectors, their truly global multinational nature and their larger exposure to non-OECD countries than their US or European rivals.
The market remains rated lowly in both P/E and earnings growth terms, although the return on equity (RoE) does also look low on an international basis.
However, the latter is held artificially low by two factors. First, many Japanese firms carry significant cash balances, boosting their equity.
Second, the overall figure is restricted by a large number of entirely domestic firms with barely positive and very low RoE figures.
Here, the recovery from the recent disasters will support earnings comparisons to 2011 and may last into 2012.
Japan can best be summed up as a classic special situation, whereby investors do not appreciate the underlying fundamental positive corporate changes that have occurred.
They are still being put off by the market’s poor historic performance, the assumed negatives of an overvalued currency and the country’s ongoing structural problems.
Chris Taylor is head of research and fund manager of the Neptune Japan Opportunities fund