After strong performance from New Japan companies in 1999, the Japanese Index is now going through m...
After strong performance from New Japan companies in 1999, the Japanese Index is now going through more difficult times as market leadership moves from the New to the Old Economy.
James Pulsford, fund manager at Deutsche Asset Management, runs the Japan Capital Growth, a $50m offshore fund that aims to outperform the TSE First Section Index. He says he is "cautiously optimistic" on the Japanese market.
"We are encouraged by a clear trend that has been developing in the past couple years pointing to a noticeable change in the attitudes of Japanese corporate management," he says.
"Many companies have finally moved away from chasing market share and throwing capital at all sorts of investments. The concept of economic added-value is becoming more widespread.
"This is not just talk - it is starting to be apparent through figures. The last set of corporate results shows a 16.5% increase in operating profit based on a sales increase of just 0.7%. This demonstrates a marked improvement and shows how much more return conscious companies are becoming."
However, Pulsford believes investors should proceed cautiously in the Japanese market.
He says there are four reasons why investors should not get carried away on a wave of optimism. First, the unravelling of cross-holdings is continuing and increases the amount of supply. Second, the political situation in Japan leaves much to be desired and the government is not seen as showing the necessary leadership. Third, equity valuations are still relatively high. Finally, the prospects for economic growth remain modest as government spending simply cannot continue at the same pace.
"In addition, the economic recovery will be held back by the fact that the working population is falling at an annual rate of 0.5% and is forecast to do so over the next 20 years," Pulsford adds.
Although he sees a good story on the corporate level, this is mitigated by valuations and prospects for economic growth.
Regarding the recent spate of bankruptcies, Pulsford is not too worried.
"Everybody, including the banks, knew those companies were in trouble. It would have been more worrisome if the government had propped them up."
The major bets in the portfolio are industrials and value. The capital goods sector has been overweight as it is a beneficiary of strong growth in corporate capital expenditure.
Over the past six months, the exposure to New Japan, which had proved so beneficial in 1999, was gradually reduced as the portfolio shifted away from growth in favour of value. The fund is underweight banks.
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