Tokyo: Japan’s stocks are on a roll this year, but even with a stronger yen to boost returns in dollars, Americans aren’t impressed.
"Overall interest in Japanese equities was fairly subdued during our recent US marketing trip," Goldman Sachs Group Inc analysts Kathy Matsui, Hiromi Suzuki and Kazunori Tatebe wrote in a June 1 report. "Most long-only US investors remain underweight Japan."
They would have been missing out on Friday, when the Topix index closed at its highest level since August 2015. That’s a total return of 7.3 percent for the year so far, or 12 percent in dollar terms, against 9.5 percent for the S&P 500 Index as of Tokyo’s close on Friday. Also eye-catching: the Nikkei 225 Stock Average surpassed 20,000 for the first time since 2015.
Among the reasons the Goldman strategists listed: concern among US investors that "Japanese economic reform momentum is taking a backseat to constitutional revision." At issue: Prime Minister Shinzo Abe’s effort to amend the country’s pacifist constitution to include recognition for its self-defense forces has split the public and threatens to take over the political agenda.
Yet even with the controversy, few expect Abe to lose office for years to come. And Matsui highlights Abe cannot elevate Japan’s geopolitical stature without a growing economy behind it.
Another challenge has been a continuing association of the Japanese market with the yen. As investors can readily see on certain days, when the yen falls, the Topix index tends to rise -- thanks to the assumption a more competitive currency would inflate exporter earnings. What that narrative misses is a subtle change in Japan’s domestic market, with the economy gradually shedding the legacy of deflation after a plunge in the unemployment rate.
"It was just hard to get people excited about the market unless you could paint a picture that the yen was going to fall significantly," Matsui said by phone describing her trip in late May to meet with dozens of investors in several US cities. She and her team highlighted in the report that exports make up less than one-fifth of gross domestic product. "They will eventually get it, but they still need convincing."
Other reasons the Goldman team cited for American investor indifference to Japan’s equities. Greater focus on European stocks within developed economies, especially after the French presidential election, and on Asian emerging markets including China and South Korea. The recent drop in US Treasury yields -- a development that could weigh on the dollar against the yen.
Foreigners have become modest net investors in Japanese stocks this year, but that’s been propelled by Europeans, according to Goldman. "It is difficult to identify catalysts that will lure significant foreign buying in the short-run," they warned. That’s especially true for Japan’s Pacific partner: "one reason cited by US investors for staying on the sidelines of the Japanese equity market is that they are at a loss as to where to invest within the market."
If Japanese stocks are now less of a play on the basis of swings in the yen, investors may need to do more leg-work on which sectors are set to benefit from underlying changes in Japan’s economy.
