After 20 years, Japan’s emerging with deflation in reversal and equities and company earnings rising.
With the consumption tax hike and the election now behind us, benefits of Abenomics will be more visible in 2015. The strong December 14, 2014 lower house election results for the Liberal Democratic Party (LDP) mean that the Japanese public has endorsed the government to continue with Abenomics. The LDP now commands a comfortable majority having kept most of the seats gained during the landslide victory at the end of 2012. By most measures, the Japanese economy is in much better shape compared to two years ago, but the long term recovery story has only just begun. The economic data volatility and confusion due to the consumption tax increase in 2014 will be absent in 2015. Investors will be able to clearly see the benefits resulting from current policies.
“The economic data volatility and confusion due to the consumption tax increase in 2014 will be absent in 2015. Investors will be able to clearly see the benefits resulting from current policies.”Miyuki Kashima, Head of the Japanese Equity Investment Division, BNY Mellon Asset Management Japan Limited
Two years ago, the Japanese public was skeptical about Abenomics. The series of monetary, fiscal and growth policies were bold, but many doubted the government’s ability to pull the third largest economy in the world1 out of 20 years of stagnation. The results so far have been impressive; Deflation, one of the main causes for the prolonged slowdown, has been reversed. CPI has been in positive territory since June 20132. Unemployment has fallen from 4.5% in December 2012 to 3.5% in October 20143. Tokyo center office vacancies have declined steadily to 5.5% in November 2014 from 8.67% in December 20124. The average 2014 summer bonus increased 8.48% YOY, the highest level in over 20 years5. Despite the second quarter pullback in GDP following the consumption tax hike in April from 5% to 8%, (which was decided by the previous government), third quarter nominal GDP was 2.5% higher than what it was in the fourth quarter of 20126 when the current government first came to power.
The most attractive aspect of the Japanese market is the prospect of a sustained, longer term recovery. Japan’s nominal GDP (a more appropriate measure for a country suffering from deflation than real GDP), peaked in 1997 and declined about 10% by the end of 20127. In this environment, companies curtailed capital expenditure and spending of all kinds including investing in people. This is evident from the fact that 44.9% of manufacturing facilities were over 15 years old at the mid-year point of 2013, compared to 33.1% in 19948. It is also reflected in the increase in the proportion of part-time workers from about 18% in 1995 to about 35% in 20139. As a result, the loan to deposit ratio of the banking industry has fallen from over 100% in 1995 to only 60% in 2013 reflecting a vicious cycle of deflation and negative business sentiment10. Once deflation ends, we believe the investment opportunities for the Japanese market are attractive on an extended time horizon, and we believe that Prime Minister Abe is on track to accomplish this.
Last but not least, despite complaints that the positive effects of Abenomics are not being felt by everyone just yet, the election results confirm that the public endorses the government’s current policies and have accepted some of the pain associated with changes that include an increase in consumption tax, inheritance tax, and medical costs for the elderly. The public seems willing to swallow a bitter pill for the sake of its future. This public support combined with a stable government for the first time in many years is an encouraging sign.
Very unlikely. Despite the significant positive turnaround in the political and economic backdrop with company earnings and the stock market both rising, global investors are still underweight in Japanese equities and we expect this to change over time as fundamentals continue to improve.
We believe the Japanese equity market presents a compelling opportunity as the recovery in the stock market has significantly lagged earnings as shown in Chart 2 below. The earthquake, the strong yen and the ever-rotating prime ministers held back Japan’s recovery. Even after the sharp stock market rise in 2013 and a further modest rise in 201411 the Japanese equity market, unlike the rest of the world, has not caught up with the earnings recovery, underway since 2008. And it has yet to factor in the potential for change.
For the 2015 fiscal year which starts in April, we believe the corporate earnings outlook is particularly positive. There are several reasons for this. In addition to the longer term benefits of Abenomics which are starting to come through, the weaker yen, and oil price will be a plus for EPS growth, as well as the expected 2.5% decline in the corporate tax rate and the postponement of the additional 2% rise in the consumption tax from Oct 2015 to April 2017. The consensus EPS growth for next year is about 10%, but we are starting to see estimates being revised upwards into the teens and even above 20%12.
1 World Bank, updated September 24 2014
4 Miki Shoji, Miki Office Report Tokyo
5 Nikkei Newspaper July 14 2014
6 Cabinet Office, Government of Japan
7 Cabinet Office, Government of Japan
8 Ministry of Economy Trade and Industry, Report May 31 2013
9 Statistics Japan, Statistics Bureau, Ministry of Internal Affairs and Communications, December 2013
10 Bank of Japan, September 2014
11 Bloomberg, January to November 2014
12 Nomura Securities Survey, 2015
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Head of Japanese Equity Investment, BNY Mellon Asset Management Limited
With over 25 years of Japanese equity investment experience, Kashima joined BNY Mellon in April 2013 from ING Mutual Funds. In her role at BNY Mellon, she leads the Tokyo-based team and is ultimately responsible for all of its investment strategies. She has extensive experience in managing funds, both retail and institutional, for Japanese and overseas clients.