Despite the fall in global equities in May, the Japanese stock market continues to gather momentum w...
Despite the fall in global equities in May, the Japanese stock market continues to gather momentum with some rapid price rises among small stocks.
According to Andrew Gibbs, fund manager for the New Star Japan Recovery fund, the equity market took the ending of the 0% interest rate policy with aplomb, boosted by better than expected first quarter results.
He explains: "Profitability has continued to blossom and Japanese equities have gained 3.5% since the end of June but are still 0.5% below their New Year level. The recovery in profitability is predominantly among domestically oriented companies. This is unsurprising as employment and wages are rising, which should assist consumption and housing starts and, by extension, boost loan growth.
"Meanwhile, the long established improvement in domestic capital expenditure continues to broaden. While a well-balanced domestic recovery is in place, the outlook in some of Japan's most important export markets, such as the US, is worsening, meaning declining demand."
As a result, Gibbs believes the economy will become increasingly service and consumer-oriented, moving away from exports. With this in mind, he has increased the funds weightings in the retail sectors, with companies such as Aeon, Yamda Denki and Isetan.
Another fund manager focusing on the retail sector is David Varley, deputy manager of the Old Mutual Japanese Select fund. He says while the consumer sector has become oversold recently, selected retailers still offer good value.
He adds: "The market as whole still faces a couple of hurdles. Concern about the external environment, notably US interest rate and the global economy, seems to have moderated, but the amount of stock bought with borrowed money by domestic investors remains a potential overhang on the market, although much less so than three months ago. Recent signs foreign investors are tentatively returning to Japanese stocks are encouraging."
However, David Miller, London head of advisory at the Royal Bank of Canada, says despite the upbeat outlook, most investors remain suspicious of the country's recovery. "The question being asked is whether things have really changed in Japan and can they look to superior returns once again?"
Like Gibbs, Miller agrees economic fundamentals are strong. "Corporate earnings peaked in 1989 but have been on a recovery track since 2003 and are expected grow by 10% this year and next," he adds.
"Meanwhile, analysts' forecasts for 2006/2007 are likely to be upgraded as the post deflationary environment helps to boost earnings while price rises seem to be sticking, which will be good for margins."
He also cites the multiple for next year on forecast earnings to be 15 times and the dividend and share backs schemes currently being undertaken by Japanese corporates as other positive areas for equities.
"These all provide encouragement to potential investors in Japanese equities."
Daniel Lockyer, fund manager for the iimia Income fund, says companies are now being run for shareholder profit rather than for staff, suppliers or the community, meaning they do not need top line growth to generate earnings growth. He explains: "I expect significant dividend growth over the coming years as high cash balances following balance sheet restructuring are paid out to shareholders.
Japanese economy on the road to recovery
Retail sector looks favourable
Companies focused on share buyback schemes
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