Schemes weigh up long-term value in Japanese equities

The country's equities this week suffered their worst sell-off since last June as concerns over a slowdown of the US economy caused the Nikkei 225 to drop by 4.2 per cent.

Despite this, investors believe the long-term outlook is strong for Japan, as prime minister Shinzo Abe’s economic policies to stop deflation takes effect.

“There are very few asset classes where you can see a decade of potential improvement after 20 years of doing nothing,” said Miyuki Kashima, head of Japanese equity investment at BNY Mellon Asset Management Japan. “I think we are coming to an inflection point. [Deflation] is finally coming to an end.”

Some schemes have been looking at investing in Japan, though most are choosing to do so through diversified growth funds or global equity funds as a way of moderating their exposure, consultants have reported.

They are also relying on managers with good knowledge of the market to make the investment decisions on their behalf.

“We have seen investment, but our clients are using diversified funds to invest,” said Rob Skelton, investment consultant at Xafinity. “Schemes are delegating these decisions more to managers.”

One strategy that has proved effective is combining equity investments with hedges against currency risk to maximise the benefit of the Japanese government’s programme of quantitative easing, he said, adding: “Quantitative easing stimulated the equities market but weakened the currency."

The use of specialised managers is seen as an important factor when investing in Japan, as its economic performance is more closely linked to domestic factors.

“The market is such that it responds mainly to developments within Japan… The predominant driver of the economy is the Japanese market and policy,” said Tapan Datta, head of global asset allocation at consultant Aon Hewitt.

The country’s poor performance this year has followed relatively strong returns last year, which may lead schemes to think the opportunity has passed.

There have been some quite large sell-offs, but Datta said it should not be a big factor in the long term, adding: “The key attraction is the prospect of higher corporate profitability. The lure is that the market can become a different animal off the back of this, but it will take a few years to know for sure.”

The opportunity in Japanese equities may be restricted to investors that can afford to take this long-term view.

“Last year or this year doesn’t make a difference in the long term. If you’re short-term you’re going to say [the opportunity] was last year,” said Kashima.

"But we’re looking at about 15 or 20 years of decline, so when that turns it doesn’t mean its bad if you got in this year or last year."