TOKYO (Reuters) - An 18 percent rally in Tokyo stocks since September caught some global investors badly under-invested in Japanese shares - and too late to cash in on the second best-performing major market this quarter.
They failed to anticipate that synchronized global economic growth, higher corporate earnings, and a market underpinned by political stability and expansionary monetary policy would drive growth quite as forcefully as it has.
Many investors are turning bullish, Reuters learned from interviews with 10 European and U.S. asset managers over November to December, but some international long-only funds have yet to jump on the bandwagon because popular stocks are already highly priced.
“If you look around globally, there are still many investors who have missed the timing to buy because it was such a rapid rise,” said Takashi Maruyama, chief investment officer Japan at Fidelity International, referring to the rally that started in mid-September.
Goldman Sachs’ data, via a sampling of 44 global equity funds, mostly U.S. mutuals, shows that their Japan exposure is 4-7 percent underweight versus the MSCI EAFE index at the end of September.
“They probably have bought some shares since then, but have not yet reached neutral,” said Kathy Matsui, vice chair and chief Japan strategist at Goldman Sachs Japan. “While they were underweight Japan, the market rallied more than those in their home countries - painful for those who under-invested. The so-called ‘pain trade’ has prompted recent massive buying by foreigners.”
Global investors’ appetite for Japanese stocks ebbed after the initial excitement over the government’s expansionary ‘Abenomics’ policies faded in 2015 and as other markets, such as emerging markets and Europe, appeared to offer better opportunities.
But an uptick in the global economy in recent months has improved Japan Inc’s earnings outlook while Prime Minister Shinzo Abe’s election victory in October is expected to cement a few more years of political stability and easy monetary policy.
“Japan stands out as a calm area. The political backdrop looks a lot less certain in many other alternative equity markets. So I think investors will continue to like the Japanese market and you will continue to see flows,” said Rod Paris, Aberdeen Standard Investments’ chief investment officer.
Richard Kaye, portfolio manager at French asset management firm Comgest, said Japan can offer unique long-term opportunities for “patient bulls” because it is a misunderstood market plagued by persistent doubts.
“Although Japan does not offer FANGs, it does offer a host of quality growth companies in high-tech engineering, such as robotics, sensors, materials handling or semiconductors,” he said. (FANGs is market terminology for superstar stocks such as Facebook, Amazon, Netflix and Google)
But many long-only stock pickers face a dilemma: They are positive on the overall Japan market but often many of the names they like, in cyclical sectors such as robotics and information technology, are too expensive.
Large cap robotics-related shares Fanuc (6954.T), factory automation firms Keyence (6861.T) and Misumi (9962.T), all trade at price-earnings ratios above 30, a much higher multiple than the benchmark Nikkei's .N225 15.
The Bank of Japan’s constant buying of exchange-traded funds has also put a floor under the stock market, supporting share prices but depriving active managers of opportunities to pick a bottom.
As overseas investors account for more than two thirds of trade on the Tokyo Stock Exchange, their participation is seen as a key factor in its success.
Valentijn van Nieuwenhuijzen, chief investment officer at Dutch asset manager NN Investment Partners, says many foreign investors now favor Japanese shares as a tactical and cyclical play on the global economy, rather than long-term bets on Corporate Japan.
“They are far from convinced that Japan has really turned the corner and is already on a reflation path. If that conviction rises over the next couple of years, then I think there is another pool of money that could flow into Japan, but it’s too early to say,” he said.
Foreign and domestic bulls, “patiently” looking for buying opportunities, are setting up the Nikkei, which currently hovers near 26-year highs, for a barnstorming 2018.
Goldman Sachs expects the Nikkei to finish 2018 at 25,200 yen, a rise of 12 percent from current levels, while JPMorgan expects the Nikkei to peak at 26,000 in 2018.
Reporting by Tomo Uetake; Editing by Eric Meijer