Japanese economy already on course for a sound recovery

By Yutaka Uda

Monthly Fund Commentary
23 Jan 2015

By Yutaka Uda

In December, the Japanese market rallied consecutively for seven days at the beginning of the month and the Nikkei 225 Index reached intraday 18,000 for the first time in more than seven years before fading as a result of disappointing domestic economic figures and the decline in US and European equity markets due to political instability in Greece and prevailing concerns over Russia.

The Nikkei 225 Index closed the month at 17,450.8 (down 0.1% MoM) and the TOPIX at 1,407.5 (down 0.2% MoM).

In terms of sector performance, of the 33 TSE sectors, 21 appreciated. Oil, which was the worst performer in November, was the best performer this month followed by mining, insurance, services and rubber. The worst five performers were communication, miscellaneous finance, securities, real estate and foods.

At the beginning of the month, Japanese markets appreciated as a result of the weakening yen, cheaper crude oil prices which could boost corporate earnings and expectations of a US Fed decision to increase interest rates. After the Nikkei 225 Index reached 18,000 intra-day on 8th December the market declined after the unexpected downward revision in Jul-Sep domestic GDP. By 17th December, the index fell to 16,672.9 backed by weak markets in the US and Europe that stemmed from concerns in Greece and Russia and other oil producing countries. On 14th December, the lower house election resulted in a major victory but this was in line with the expectations and therefore did not boost the market. US markets rallied after the FOMC meeting and Ms Yellen’s statement that were understood to be positive for the US economy and the Japanese market also started to recover from 18th December. However, the market lost its direction as the concerns for Greece prevailed and the Japanese market declined towards the end of the month.

The yen started the month at 118.63 against the USD and depreciated towards JPY/USD 121.84 before closing the month at JPY/USD 119.78.

The net asset value per share for the Nippon Growth (UCITS) Fund on a Japanese Yen basis as of 31 December 2014 decreased 0.9% compared with that of 28 November, while the TOPIX Index declined 0.2% during the same period. The Fund put no new names into the portfolio with no stocks sold out.

There is a widespread view that, with the collapse of the crude oil market, the world economy is on the edge of deflation. CPI in the euro zone in December fell 0.2% YoY, the first decline in more than 5 years. Some economists argue that core CPI in Japan (excluding foods and the consumption tax impact) might enter into negative territory in 1Q 2015, but it would be dangerous to look at only negative factors that result from a lower oil price. The ECB has the chance within the next month to launch an already heavily anticipated programe of further quantitative easing. The World Bank is suggesting that emerging economies should use the plunge in oil price to reform distorting fuel subsidies either to rebuild fiscal space at less political cost or to utilize lower subsidies within important infrastructure projects. For Japan, a 50% decline in the oil price and cost of Liquified Natural Gas (LNG) would decrease imports by 12 trillion yen on year (almost 2.5% of GDP) and save 2.5 trillion yen of energy consumption for households, which should have a significantly positive impact on the economy and corporate profits. The Japanese economy is already on course for a sound recovery from 4Q 2014. Many exporting companies are shifting their production from overseas to domestic. It has been reported that Canon, a leading camera, printer and other electrical goods company, has decided to increase domestic production from 40% of the current total to over 50% within two years, and also in principle to produce new products only in domestic factories. Panasonic, Sharp, Honda and Nissan are adopting similar strategies. The government estimates that industrial production in December would increase 3.2% MoM and expand further 5.7% MoM in January 2015. This data may indicate that exports could jump up sharply from now, together with sustainable expansion of capital expenditure. Companies are also required to improve productivity in the face of labor shortages and capacity constraints. The trade balance, in which Japan is experiencing huge deficits, might turn into surplus within FY2015, which will result in a significant impact on the currency market. The Investment Adviser sees the potential for a clear turnaround of the Japanese yen against major currencies in the near term.

The Fund is increasing allocation to the machinery sector with the conviction that capex will have to grow to seek higher productivity. The Fund will maintain high weightings in banking and commerce sectors (mainly trading companies). On the other hand, defensive and technology sectors should be avoided as these generally have high valuations and lower growth potential.

Commentary provided by Evarich Asset Management in their capacity as Investment Advisers to the Fund as of: 13/01/15.