Record profits, reforms spur Japanese stocks
With record corporate profits for two consecutive years and corporate governance reforms, it could be time to take another look at the land of the rising stocks, writes Anthony Fensom.
With record corporate profits for two consecutive years and corporate governance reforms, it could be time to take another look at the land of the rising stocks.
Shares in the world’s third-largest economy have enjoyed solid gains in recent months, helped by the Bank of Japan’s (BoJ’s) continued ultra-easy money policy and expanding corporate earnings.
On 12 July, the benchmark Nikkei Stock Average closed at 22,187, up 12.5 per cent over the past year, while the Topix index of Tokyo stocks stood at 1,709, showing a one-year return of 7.8 per cent.
With the Japanese bourse ranking as one of Asia’s best-performing equity markets in 2018, analysts at Nikko Asset Management (Nikko AM) suggest further gains could lie ahead.
In its June 2018 monthly report, Nikko AM pointed to another year of double-digit earnings growth by Japanese companies in fiscal 2017. It projected earnings growth would reach the "high single digits" for the current fiscal year, with robust global demand lifting export volumes.
Japanese companies enjoyed double-digit earnings growth in fiscal 2017
Significantly, Nikko AM has suggested corporate governance reforms have enhanced the attractiveness of Japanese equities, with a decline in cross-shareholdings and other changes helping to spur increased profitability.
"Under pressure from shareholders, Japanese companies are increasingly putting stockholder needs first, with clearer financial targets and higher dividends and buybacks," Nikko AM said.
Japanese listed companies enjoyed their second straight year of record profits in the year ended 31 March, led by automakers and manufacturers of chipmaking and industrial automation equipment.
The combined net profit of 1,566 listed companies rose by 35 per cent to nearly 30 trillion yen (A$362 billion), according to Nikkei data.
Further profit growth is anticipated in the year ahead, providing the Japanese yen stays around 110 to the U.S. dollar and is not propelled higher by "safe haven" buying.
Nikko AM’s chief strategist, Naoki Kamiyama expects the Nikkei Stock Average to finish the Japanese fiscal year ending 31 March, 2019 at 24,400, with the Topix index at 1,914.
"Japanese equities from a valuation perspective are cheap compared with markets like the US," Japan Asia Securities’ Mitsuo Shimizu told Bloomberg News.
"Foreigners have been buying big since April. If corporate earnings are strong, of course they will keep buying."
Kurodanomics reborn
Despite interest rate hikes in Europe and North America, Japan is set to buck the trend with continued quantitative easing (QE).
At its latest policy meeting on 15 June, the BoJ pledged to maintain its aggressive QE policy, leaving its benchmark interest rate at minus 0.1 per cent and its yield-curve targets near zero and continuing its massive purchases of bonds, exchange-traded funds and other assets.
Its official statement pointed to a continued rise in the consumer price index (CPI) towards 2 per cent, "mainly on the back of an improvement in the output gap and a rise in medium to long-term inflation expectations." In April, the BoJ removed the two-year timeframe for achieving its 2 per cent inflation target.
The central bank’s plan to continue QE came days after the U.S. Federal Reserve hiked interest rates for the second time this year, with the European Central Bank also stating plans to exit QE at the end of December.
"Deflation continued from 1998 to 2013, and companies and households are still very much affected with a deflation mindset," BoJ governor Haruhiko Kuroda said.
In his first term as governor, Kuroda’s policy "bazooka" of QE surprised markets, sending the Japanese yen falling and stocks surging. While dispelling two decades of deflation has proved challenging, the 73-year-old has been given more time with his reappointment for a second term in April, together with two new deputies both seen supportive of ultra-loose monetary policy.
Market watchers, including Nikko AM’s Kamiyama, welcomed the reappointment, suggesting it indicated a continuation of policy.
Barring an economic shock, Kamiyama sees official interest rates at the “longer end” reaching 0.25 per cent by March 2019, with the CPI climbing to around 1 per cent.
"Calendar-wise, I’d say the October to December quarter for a change in BoJ policy, depending on the CPI numbers, in line with better economic conditions," he said.
According to a Bloomberg survey, the majority of private economists do not expect any policy tightening until 2019 at the earliest.
Clouds for Japan include a potential flight to safety in the event of a geopolitical crisis, which could strengthen the yen and send Japanese stocks lower. A global trade war would also dampen investor sentiment, particularly since Japan’s two biggest export markets are the United States and China.
However, with easy money continuing and profits rising, the sun could shine on Japanese stocks a while longer.
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Anthony Fensom is a contributor to Morningstar Australia
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