Tech stocks ebb, defensives flow. Economic data comes and goes. But for managed funds, two questions...
Tech stocks ebb, defensives flow. Economic data comes and goes. But for managed funds, two questions remain the same. The first of these is Japan. Against the MSCI All Countries World index's 8.8% weighting, what is the right thing to do? As always, the question is easy. It's the answer that's hard.
In Japanese, nemawashi means that informal process of consensus gathering that is necessary before anything can be done. As the politicians and civil servants wash away, the Japanese sun continues to sink.
Domestic demand will definitely fall in 2002, and probably in 2003. Consumption (60% of GDP) will be negatively affected by lower incomes. Private capital expenditure will also fall due to poor corporate profits, low capacity utilisation and a further move of production offshore ' particularly to China.
So what hope is there for sustainable improvement in Japan's economy and stock market? Japan continues to believe that the overseas sector ' through higher exports (with a US recovery) and lower imports ' will steady the economy. This should also ensure that yen weakness remains government policy. The Bank of Japan will support all the large banks. Hence risk to the whole financial system should never become a problem.
As for the stock market, the government is well aware of the benefits a stronger stock market has on the economy. These are a greater ability to write off bad debt in the banking sector, a more secure life insurance industry (where most Japanese have savings), a better funded corporate pension scheme and a general, if small, wealth effect. We have seen the government use public pension funds to buy equities and have seen a squeeze on short selling. This encourages us to believe that the market bottomed in February with Topix below 1,000.
Cost cutting, stock buy-backs, more focus on shareholders and reorganisation are all clear evidence of long overdue corporate reforms. This should ensure that corporate earnings rebound in 2003, even if the Japanese economy shows nominal growth of '2.0%.
Our restrained optimism explains our 5.9% weighting to Japan ' underweight the index, but still overweight the peer group.
But the call on which we are much less cautious is the second question: emerging markets. We have an 11% emerging markets weighting against the index's 5%. What they lose on the way down, they gain on the way up. Emerging markets are always first to recover from the trough of economic decline. In five of the last six economic cycles, Asian markets have been harbingers of recovery. We think they are again, as this seventh cycle turns.
Outside emerging Asia, selective, stock-specific opportunities abound. Many have indeed proved golden. South Africa's Gold Fields has gone up 162% this year, and Harmony Gold 106%. Impala Platinum has rewarded investors with a 24% rise. Kumba Resources, the diversified mining group, is up by 45%. In Russia, our favourite stock is oil group Yukos. Its share price has risen 94% so far this year. These stocks will do.
The Japanese stock market has bottomed.
Global economic recovery benefits Japan.
Emerging markets should remain strong.
Staying invested could prove lucrative
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