Brian Tora is impressed with Prime Minister Shinzo Abe’s achievements
Japan has been a tricky place for investors – even today, despite delivering the best return of any developed market so far this year. As I write, the Nikkei 225 index is still up a third on the level at which it started 2013, having been more than 50% higher at its peak. But it is worth reflecting that, a little over two decades ago, this very same index stood at very nearly three times its current level. No wonder foreign investors treat this market with suspicion.
The Japanese story of the last half century has provided some important lessons for investors and policy makers alike. Out of the rubble of the second world war, the country created an efficient and effective manufacturing base which started by providing cheap copies of western goods, migrating into higher quality, added value products. There are parallels to be drawn with China, – with potentially worrying implications for the future.
Growth, Crash and Resurgence
By the end of the 1980s, the Japanese market was reaching sky high valuation levels, tracking a booming economy and driving the index to close to 40,000. The Japanese stock market actually overtook that of America in capitalisation terms at one stage. The fall from grace saw more than 80% wiped off the value of this market – and it led to many foreign investors simply taking the country off their allocation lists.
So what is it that has banished all that negativity in the last six months? Mainly, it’s been the decision of Prime Minister Shinzo Abe’s new government to embrace the quantitative easing policies that have been favoured by western central banks in recent years, with a view to kick starting the economy and actually encouraging inflation. (A 2% target is in place for the medium term.)
And it’s here that we get to the core of the problem faced by Japan in the 1980s and 1990s. In those days, accumulated wealth and poor demographics (a fast-ageing population) allowed a period of deflation to be ushered in, leading to zero economic growth and negative interest rates.
Mr Abe has only been in office since last December, but he has acted swiftly to reverse the country’s economic malaise – a policy for which he clearly has a national, if not international, mandate. The result, as we’ve seen, has been a surge in the equity market, which took the index close to 16,000 – up from just over 10,000 at the end of last year.
Optimism and Volatility
Subsequently, as we’ve said, we’ve seen some wild swings in this market, with the index moving by as much as 10% in a single day on one occasion, and by 5% on a couple more.
There’s no doubt, of course, that foreign investors are now reconsidering this market – but actually the volatility seems more likely to be a consequence of a trading mentality amongst domestic investors that has now re-emerged after a generation of inactivity. Abe’s economic stimulus measures, though, also seem to be bedding in nicely. Wage increases are being encouraged, and tax incentivised savings plans, rather like our own ISAs, are likely to be introduced soon.
Equally important is the possibility that the nation’s public sector pension funds might be pushed into switching bonds into equities. The aim appears to be to encourage a feel-good factor by stimulating the stock market, and to put more money into the pockets of Japanese consumers. That ought to encourage the public to spend more, and thus to help the economy along. And a side effect of these policies has been to lower the value of the yen, thus assisting Japan’s exporters.
So far, so good. But, after such a recovery in the fortunes of the market, is it any wonder that investors are prepared to take profits? The big sell-off a few weeks ago was prompted by the dual concerns over the Fed’s intentions on maintaining an easy money policy and China’s ability to sustain growth at current levels. Doubtless other worries will emerge from time to time. The best assessment seems to be that the easy money has been made in Japan, but there could still be more good news to follow. It may be a bumpy ride, though.
Brian Tora is an associate with investment managers, JM Finn & Co