(Bloomberg Opinion) — Some of the world’s most famous investors and Wall Street’s biggest banks are expressing a close consensus that Japan’s stock market is the place to be as its biggest peers, the US.
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Man GLG, JPMorgan Asset Management and Morgan Stanley are among those seeing the most gains after Japan’s Topix index hit its highest level since 1990 this week. Stocks are soaring above so-called “iron coffin lid” levels as the return of inflation, improving shareholder returns and the endorsement of Warren Buffett combine to burnish the appeal of the third market largest stock market in the world.
“Japan is my favorite global stock market right now. You’re getting everything you want,” said Jack Ablin, chief investment officer at Cresset Capital Management, a Chicago-based investment advisory firm that manages about $60 billion. “We are 50% overweight Japanese stocks in our developed market strategy.”
Japan stands out amid US anxiety over the debt ceiling issue and a potential recession, and as China’s uneven economic recovery and lackluster market increasingly frustrate global investors. Foreign funds have further increased their holdings of Japanese shares this month after raising 2.2 trillion yen ($15.9 billion) in April, the most since October 2017.
The Topix Index closed at 2,161.69 on Friday, taking its May gain to 3.8% in dollar terms. The Nikkei 225 is up more than 5% and ended Friday at its highest level in almost 33 years. China’s CSI 300 Index, meanwhile, has fallen around 3.5%, continuing to lose ground after the initial reopening rally evaporated. The S&P 500 has added less than 1%.
Jeffrey Atherton, head of Japan equities at Man GLG, sees an additional 10-15% potential for the market in resilient earnings, modest valuations and corporate reforms. Man GLG is one of the investment divisions of Man Group Plc, the world’s largest publicly traded hedge fund.
“We expect Japanese interest rates to remain very low by global standards, so monetary policy should be supportive of risky assets, unlike in other regions,” he added.
Japan’s market value has risen about $518 billion from the January 5 low, according to data compiled by Bloomberg. Stock funds in Japan attracted $800 million in the week ending May 10, the most in seven weeks, while those in the US and Europe saw outflows, according to EPFR data.
All this occurs when years of loose monetary policy finally translate into higher inflation. Consumer prices excluding fresh food rose 3.4% from a year earlier in April, showing that Japan has firmly weathered deflation without stoking excessive price increases that justify rate increases like in the US. China, on the other hand, faces deflationary risks.
After long sitting on mounds of cash, Japanese companies are also coming to terms with the need to improve shareholder returns and untangle cross-shareholdings in response to growing demand for better corporate governance.
Share buybacks hit a record in fiscal 2022, with investors hoping for more after the Tokyo Stock Exchange call in January to boost valuations of companies trading at a book value ratio of less than one.
“We are starting to see the interests of all shareholders being recognized,” said Alex Stanić, head of global equities at Artemis Investment Management. “Too many Japanese companies have been trading for too long at a discount to book value. That makes for great bargains for investors.”
Warren Buffett helped fuel recent optimism toward Japan by renewing his endorsement of the market during a trip earlier this year. Société Générale SA and Pictet Wealth Management are among those with an overweight option on Japan and an underweight option on US stocks.
Despite the prevailing optimism, the market could still pull back in the short term, as technical indicators show that the indices are in overbought territory. Real wages are falling even as inflation rises, and a slowdown in the global economy could hurt local exporters that rely on the US and Chinese markets.
Analysts expect Japan’s economy to grow about 1% this year, above the 10-year average. The US and China, at 1.1% and 5.7% respectively, are expected to expand below their historical trends.
“The Japanese economy’s exit from deflation” and the “transition to a moderately inflationary economy” is one of the unique structural changes in Japan, JPMorgan equity strategists, including Rie Nishihara, wrote in a note dated Friday, adding that the rally is likely to be sustainable. since these factors are not temporary.
For many investors, Japan’s valuation is too cheap to ignore. Nearly half of the members of the TSE Prime Market Index are trading below book, compared to just 5% for the S&P 500 Index, data compiled by Bloomberg shows. Even after the rally, Topix’s price-to-book ratio is about 1.3x, in line with its 10-year average.
“Despite strong year-to-date performance, most sectors are still heavily discounted to the S&P, making valuations attractive,” said Evgenia Molotova, a senior investment manager at Pictet Asset Management in London. “We believe that Japan will continue to demonstrate a strong performance in the medium term.”
–With the assistance of Hideyuki Sano and Sagarika Jaisinghani.
(Adds stock strategists comment in penultimate paragraph.)
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