In traditional fashion, the export sector is leading the way in Japan's current economic pick-up, cl...
In traditional fashion, the export sector is leading the way in Japan's current economic pick-up, closely accompanied by a resurgance in house price growth.
Although the burgeoning recovery has not been reflected in the performance of the stock market, the breadth of the recovery has given fund managers hope that it will last long enough to have a significant impact on the equity markets.
Jamie Jenkins, director of Japanese equities at F&C, says: "Japan has traditionally traded as a geared play on the global economy as it is an exporting nation. However, what is different is that we are beginning to see an increase in domestic recovery, so it is not only exports."
According to Jenkins, in places such as Tokyo, Osaki and Nagoya, land prices are improving. This has been good for the banks as land can be held as collateral for the loans. Although bank lending is still stagnant, it is at least making some progress.
Alastair MacGregor, investment manager at New Star, feels these rises in property prices as well as rent in main centres like Tokyo will begin to broaden to other areas in Japan.
Although Jenkins thinks consumption is still weak, confidence is improving and Japanese people are looking to buy apartments. Areas he sees doing well on the domestic side are real estate and construction because of the increase in sales, while in the commercial property area, companies are putting up more factories.
At Ashburton, Peter Lucas, global investment strategist, believes Japan's economy is in the early stages of an important transformation.
He says: "By our estimations, the output gap in Japan has now closed, hence if the economy continues to grow, the result should be high inflation. For the first time in over a decade, property prices are rising in the centre of Tokyo. Bank share prices are rising both absolute terms and relative to the Nikkei."
Ashburton remains optimistic about the investment potential in Japan, even though the pace of economic activity has cooled and the Nikkei was the worst performing major stock market in the second half of 2004.
Lucas says: "It is our belief that Japan is very much on the road to recovery and, although there will undoubtedly be setbacks along the way, we also believe that the Nikkei is in the early stages of a new long-term bull market."
According to Lucas, the situation is different this time because Japanese companies have woken up to the need for change much earlier than the politicians. As a result, they have been working hard to cut back on excessive investment, reduce debt and enhance profitability, with the result that the corporate sector in Japan is now in its best shape for many years.
In the 1990s, Lucas points out recovery after recovery in Japan was snuffed out either by government policy errors or global economic downturns.
Jenkins says: "There has also been a big increase in private sector capital expenditure. Japanese companies have not invested anything since the late 1980s. Companies are now beginning to replace machinery and are spending more money investing in this area. There has also been a rise in machinery exports to the US."
According to MacGregor wage falls have been lessening and consumption is starting to stabilise. Corporate profits have been getting stronger as a result of companies restructuring. Profits have been spent on capital expenditure and increasing wages. This is likely to feed through into the domestic economy.
Although Lucas says: "While there is still much that could go wrong, we are inclined to be optimistic. What intrigues us most of all is the possibility of an end to deflation in Japan. Zero interest rates combined with an increase in risk appetite is a potentially explosive combination."
Jenkins warns what the risk to the Japanese market will be if interest rates rise quicker than expected. This could cut the demand for manufacturerd goods such as automobiles that have been popular exports.
The view at New Star is that the Japanese economy is still primarily driven by exports to the US and China.
If consumer spending drops off in the US this could have an impact on the Japanese export market. Japan still relies on the rest of the world to buy its goods.
MacGregor thinks the key will be the money supply - as long as interest rates do not rise sharply in the US or China, exports should increase globally.
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