Thank goodness for Shinzo Abe. Back in 2007, I wrote here that ‘over the next two to five years Japan will turn out to be one of the best investments UK-based investors can make’. By the middle of 2012, nearly five years on, that wasn’t looking like much of a prediction.
Then prime minister Abe appeared on the scene. Since his election in November the yen has fallen 20 per cent against the dollar and the Japanese stock market has risen not far off 50 per cent. Phew. So what’s so great about Mr Abe? The short answer is that he has promised to do something about the Japanese economy after two decades of slow growth and semi-deflation, and — crucially — everyone believes him.
He has what he calls a ‘three arrow’ strategy for change. The first arrow is fiscal policy. This is pretty standard for Japan: spending piles of money the country doesn’t really have on stuff it’s hard to imagine the country really needs, and it’s a method that hasn’t ever really worked before. The next arrow is a ‘growth strategy’, which is to be announced in June and again is unlikely to have much immediate market impact. Growth strategies don’t often work either.
But the third arrow is a different matter. It’s a huge programme of western-style quantitative easing (QE), and one that the markets love. Abe’s new Bank of Japan chief, Haruhiko Kuroda, has announced that over the next two years the Bank will effectively print money to the equivalent of around 15 per cent of Japan’s GDP. The money will be used to buy government bonds alongside some exchange-traded funds and even real-estate investment trusts.
This will all keep pushing the yen down — the more money there is around, the less each unit of it is worth. That’s good for Japan’s exporters, who have suffered from a strong yen for far too long but should now see sharp rises in profits as the falling yen makes their products cheaper abroad. By pushing up import prices, meanwhile, the weak yen should help in the effort to create inflation, and expectations of further inflation. And most importantly from my point of view, it should keep pushing up asset prices. There’s some uncertainty about whether this is part of Japan’s depression escape plan — as it clearly has been for the US and the UK — but even if it isn’t, it should continue to be a happy side effect.
QE has had a very clear impact in the West. It has acted as hot-potato money — dumped in one investor’s bank account by the central bank in question but jumping from asset to asset as investors redeploy it, so pushing up prices across the board. The effect of QE on the fundamentals of the US and UK economies will be argued pro and con for decades to come, but there isn’t much doubt that the surge of liquidity it has given us has caused a leap in the prices of everything from equities to art and smart flats in London. Why wouldn’t that happen in Japan, too?
The key point to note here is that Japan wasn’t actually in bad shape before Abe arrived. It is still home to hordes of world-leading companies, many made lean by years of coping with an overpriced yen. Its banks are no longer bust, unlike almost everyone else’s. Its debt levels, while seemingly insane, look less appalling if you take the state’s huge asset base into account. And its markets are cheap: on price-to-book-value measures they have long been the cheapest in the world.
Everything needs a catalyst to spark a change in perception, and Abe has turned out to be that catalyst. So here is what the Japanese market has. It has momentum, it has value and it has QE. What more could you possibly want from a crisis-era investment? It won’t go up in a straight line, of course. Perhaps it might pause over the summer — even some of its greatest fans expect a correction in the next few months and there is clear evidence of over-excitement in some smaller-cap stocks.
But if you want to make money over the next few years, would you like to be in a stock market that isn’t particularly cheap on historical measures, where profits aren’t growing and which is based in a country where QE is winding down — such as, say, the United States? Or would you like to be in one where profits are on the up, share prices are relatively low and one of the biggest QE programmes ever is just kicking off? Quite. If you’re looking for funds as a gateway to Japan, I suggest Jupiter, Invesco Perpetual or Baille Gifford (I declare a connection with the latter); for an exchange traded fund, HSBC MSCI Japan; and for one that hedges the yen, GLG Core Alpha.
One last small thing to note, for those of you who think Japan can’t pull this off. It has done it before. Back in the 1930s, finance minister Korekiyo Takahashi rescued Japan from depression with a huge reflation programme that involved currency devaluation and a form of QE. He was later hacked to death by a group of army officers who were unimpressed by his attempts to reverse his policies — a problem modern central bank governors will have to confront at some point. But before then, he boosted GDP growth up to around 4 per cent and the stock market up 150 per cent in less than two years. Not bad going.
Can Shinzo Abe match that? It’s entirely possible that his efforts will eventually turn out to be in vain — perhaps there is no way to fight the consequences of an ageing population, which is a whole other aspect of this discussion. But I suspect it will be well worth staying invested while we wait and see.