“Despite the rally in Japanese shares in 2017, the overall market valuation remains compelling – particularly when compared to other developed market equities.
“The case for investment in Japanese equities is less to do with Abenomics and more to do with corporate governance and stakeholder reform. This, coupled with divergent sector valuations, presents investors with considerable opportunities over the long-term.
“In recent years, the material improvement in corporate profitability in Japan has been the major driver of returns. The introduction of the stakeholder and governance codes has been the Abe government’s biggest contribution to shareholder outcomes. Both have been developing positively and have delivered tangible benefits for shareholders.
“The introduction of the governance codes has resulted in increased investor engagement with companies. Companies have significantly improved their cost structures which has helped drive improved profitability. Furthermore, companies have become more focused on shareholder value – dividends and share buybacks in total are now well ahead of the levels seen before the global financial crisis and according to Nomura Securities, are expected to reach Yen 17.8 trillion in 2017.
“However, the rally in the stockmarket this year has been characterised by a preference for apparently ‘safe earnings’ streams (typically found within consumer staples and utilities, as well as within a select universe of growth names). Whilst investors have been eager to participate in the equity rally, they have been reluctant to take on equity risk.
“While the fundamentals of these ‘stable earners’ have not materially changed through this cycle, their price has. In contrast, the prospective return from owning economically sensitive names, such as financials, has two important anchors: the stocks are cheap relative to their trend earnings and they have substantially improved both profits and shareholder returns. Moreover, these companies have managed to achieve this during a time of relatively muted economic growth. The resultant irrational price behaviour presents significant opportunities, as valuations across sectors become stretched, that I will be looking out for in 2018.”
Johan Du Preez, manager of the M&G Japan Fund and the M&G Japan Smaller Companies fund