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Japan Updates: Have you forgotten the Japanese Market? November 16, 2017
In this article, we would like to discuss the recent economic development in the Japanese economy.
Author : Jerry Lee Chee Yeong


Have you forgotten the Japanese Market?

Japan is known for their shrinking and aging population over the past decades, where the percentage of Japanese aged 65 or older is about 26% of the total population and the Japan’s population is expected to shrink by 30% by the end of 2065. Hence, the shrinking productive labor force, deteriorating consumption as well as the several short-lived recessions in Japan economy over the past 10 years are the causes for concern for investors to invest into the Japanese equity market. However, on year-to-date basis, the Japanese economy has shown sign of recovering and the equity market registered encouraging YTD return of 14.5% as of 13th October 2017. As such, in this article, we would like to discuss the recent economic development in the Japanese economy.

Figure 1: Japan GDP growth rate

Economic Updates

Fastest Economic Expansion In More Than 2 Years

Despite the critics on “Abenomics”, the world third largest economy – Japan, expanded at the fastest pace in more than 2 years, with the country’s GDP growing at 2.5% q-o-q. It also marked the longest run of growth without interruption in a decade. The robust second quarter growth was driven by the encouraging private consumption and business spending which rose by 0.8% and 0.5% respectively on q-o-q basis. As such, with the recent data, one might observe that the growth driver for Japan economy has slowly shift from external demand to domestic spending, which eased the risk to growth from the increasing yen safe-haven demand.

Figure 2: Recovering economic activity (GDP, QoQ, %)

On sentiment front, the Economic Watcher Survey for both current and future economic condition indicates that the economy is on a moderate expansion as both indices held steadily above the 50-point level that divides expansion from contraction (see figure 3). According to the survey, the index for current economic condition registered the highest level in 9 months in September 2017, suggesting that the economic activity is picking up underpinned by the recovering domestic demand. On the other hand, the future economic index remained virtually unchanged as compared to the previous month’s data. However, as long as the future economic index continues to stay above the 50-point level, we would expect an improving economic prospect for the world’s third largest economy.

In addition, Japan manufacturing activity as measured by the Nikkei-Markit Japan manufacturing purchasing managers’ index has been trending above 52 points for the first three quarters of 2017 (see figure 4), indicating a strengthening momentum in the manufacturing sector. The improvement in the Japanese manufacturing sector was mainly driven by the escalating output and new orders particularly due to the pickup in external demand as well as domestic consumption.

Figure 3: Japan Economy Watchers Survey
Figure 4: Japan's PMI

Things You Might Not Know Regarding The Japanese

Generally, Japan gives people an impression of aging population and shrinking spending power. However, although there are not many super wealthy individuals from Japan – only 6 Japanese make into the Bloomberg’s list of 500 wealthiest people, the number of Japanese millionaires followed behind the number American, but more than the combination of China and Germany (see figure 5).

Figure 5: Numbers of millionaire

On top of that, despite the several negative impressions, the country logged about US$ 22.7 billion in annual spending on luxury goods in 2016, emerging as the second largest luxury market in the world. Notably, according to Bain luxury study, only Japan among the regional markets registered positive growth rate of 10% in its luxury goods markets while the US and Asia’s luxury markets shrank by -3% and Europe declined by -1%. Although some might claim that the growth in Japanese Luxury market was driven by the international tourism, the local consumer still accounts for about 70% of the sales in the luxury goods market. Given that the large portion of Japan’s high net worth individuals are the elders which account for the largest share of the top income band, the demand for luxury goods and services in the country is likely to remain robust.

Luxury goods market aside, the retail sales in Japan has maintained a positive growth rate on year-on-year basis since November 2016. In addition, although Japan consumer confidence index stays below the 50-point level, indicating a pessimistic households’ view on the economic development, the index is currently at close to 3-year high level, showing improving willingness to spend from Japanese household.

Figure 6: Improving consumer confidence and retail sales

Abe Political Winning – Continuity Of Abenomics

Despite the plunge in personal popularity in this summer amid two cronyism scandals, Japan’s prime minister Shinzo Abe managed to score a major victory in the national election with 312 seats – super-majority (two third) in the 465-member lower house. In fact, the victory enhances Abe’s chances of winning another 3-year term in Autumn 2018 as the head of his Liberal Democratic Party, which could allow him to be the longest serving leader in Japan, to lead the country through 2021. Also, the victory signals an extended life for the “Abenomics” reflationary policy – continuity of Japan’s ultra-easy monetary policy which might result in a weaker Yen and firmer Japanese equity market. In fact, Abenomics has been successful, albeit not completely, by lifting the country’s economic growth and stimulating the Japanese equity market (see figure 7).

Figure 7: Japan's economic growth and stock market performance since Abenomics

On top of that, Abe’s victory also means that the 2 trillion Yen fiscal stimulus that he mentioned of prior to the snap election is likely to be carried out in 2018, which aims to stimulate the economy by boosting corporate investments to improve productivity and subsidizing education and child-care costs. No doubt, this would be a positive move for the Japanese economy.

Takeaway

As of 13th October 2017, Japan’s Equity Market as represented by Nikkei 225 Index was trading at 19.2x estimated PE ratio, which is slightly above our fair estimated PE of 18.5x. Although the Japanese equity market is currently trading at a premium, earnings is expected to grow by 12.2% and 11.6% in 2018 and 2019 respectively. As such, it is expected to deliver an annualized return of 11.0% by the end of 2019. We are of the opinion that the Japanese economy has just started to recover given the recovering local consumption and several loosening policies from the prime minister Shinzo Abe. Hence, we believe that the Japanese equity market is likely to emerge as the dark horse for 2018. For investors who share the same view as us, they may consider gaining supplementary portfolio exposure towards the Japanese equity market through Affin Hwang World Series - Japan Growth Fund.


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