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INVESTING IN JAPANESE EQUITIES

December 2023
Marketing Material


NEW DAWN FOR JAPANESE EQUITIES


RISING INFLATION AND IMPROVED CORPORATE GOVERNANCE HAVE TURNED THE TIDE FOR
JAPANESE STOCKS.

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WRITTEN BY

Sam Perry
Senior Investment Manager
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Japanese equities are entering a new era. Two developments in particular have
forced companies to rethink how they do business – for the better.

First, years of corporate governance reforms are starting to pay off, with a
growing number of Japanese firms becoming more strategic and focused in their
approach. Second, inflation has finally returned after two decades of stagnant
prices and wages. That means it no longer makes sense for businesses to keep
large piles of cash on their balance sheets – a relief to investors who have
looked on helplessly as Japanese companies amassed some JPY258 trillion of funds
that could have been put to more productive use.1

Over the coming months, we expect companies to start spending those cash piles.
The quick and easy way to do so would be through share buybacks and dividend
payments. The more strategic, long-term options include merger and acquisition
activity and capital expenditure. Either of which would be good news for
investors.

SPENDING SPREE

We are already seeing signs of companies loosening their purse strings.
According to the Tankan survey, they are intending to invest faster than they
have at any point in the last 40 years (see Fig. 1). That momentum will only
strengthen as domestic economic activity picks up. (Our economists estimate
Japan’s gross domestic product to grow by around 1.5 per cent in 2024 – above
potential and faster than both the US and the euro zone.)
Fig. 1 - Ambitious investment plans
Fixed investment intentions (Tankan survey, all companies 4Q moving average)



Source: Bank of Japan, Pictet Asset Management. Data covering period
01.06.1985-30.09.2023.



Given the size of the cash pile at Corporate Japan’s disposal, we expect this
investment to be material and to lead to not only increased capital expenditure,
but also increased M&A activity, increased share buybacks and increased
dividends. As balance sheets normalise, we will also see an rise in leverage
from current lows. (Adjusting for different sector weights and excluding
financial stocks, the median leverage of Japan’s TOPIX 500 stands at around 2.19
times compared to 2.79 for the US S&P 500.)2

The increase in leverage will then lift the Return on Equity (RoE) for Japan.
While many people rightly point out that Japan’s RoE is considerably lower than
that of, say, the US, it is less widely understood that, once adjusted for the
different sector weights, the median Return on Assets of the TOPIX 500 index is
very close to that of the S&P 500. The difference in RoE is in small part due to
the different rates of corporate taxation and in large part due to leverage:
Japan has cash, the US has debt. That is about to change.

The positive shift in Japan’s balance sheets and business practices comes at a
time when the structural dynamics are also looking very positive thanks to
corporate governance reforms. Today, 97 per cent of listed companies now provide
English investor materials (up from 80 per cent just three years ago), while 99
per cent have at least two independent directors (from 22 per cent in 2014).
Cross-shareholdings have fallen to new lows, as Japanese companies focus on core
competencies.

Authorities have also opened up tax free investments in Japanese stocks for
domestic investors, further boosting demand for equities. 

STOCK PICKERS' ADVANTAGE

But not all companies will cope equally well in this new normal. Managed well,
increases in capital expenditure and M&A can be a route to stronger business
growth and improved returns for investors. Yet poorly devised investment plans
can have the opposite effect . So while investing in Japan Inc in general should
reap rewards, a bottom-up, stock picking approach could help maximise returns by
drilling down into the idiosyncrasies of each company.

Take the tech industry, for example. Tech in Japan looks very different to tech
in the US. The latter is focused on communications services and service system
providers and dominated by a handful of giants like Alphabet and Microsoft.
Japan’s tech sector is much more diverse, featuring precision engineering,
electronic components, and high-tech functional materials. 

> While investing in Japan Inc in general should reap rewards, a bottom-up,
> stock picking approach could help maximise returns by drilling down into the
> idiosyncrasies of each company.

A company at the cutting edge of its industry and with strong governance should
be well-placed to reap great rewards from additional investment. That’s where an
active investment approach can show its true value. In the Pictet Japanese
Equities team, we do not start our bottom-up process with a fixed style of
company in mind. We are agnostic about whether we find valuation upside from the
market’s misperception of the balance sheet and the probability of realising its
value (classical value investing) or from its misperception of the company’s
likely future growth (classical growth investing). That frees us to select what
we believe are superior stocks regardless of style. Valuations are an important
consideration. So, for example, while the pharmaceutical sector in Japan offers
innovation and growth potential, much like tech, we see few opportunities there
as much of that potential is already largely priced in.

With a strengthening economy, improved governance and stronger incentives to
spend balance sheet cash, the investment case for Japan Inc looks very
compelling. Particularly for those investors who can identify the companies
which are best placed to capitalise on the changes and grow their business.


japanese equities at pictet asset management


EXPERIENCED TEAM WITH AN OPEN CULTURE

Our investment team has a combined 160 years' of experience and an average of 15
years at Pictet Asset Management. This gives us an understanding of Japanese
companies and their management obtained through multiple business cycles. An
open culture allows every team member to express their investment ideas with
freedom and passion.


DECISIVE AND RESILIENT

We believe the key to outperformance is to act decisively when the share price
moves away from its fair value and with resilience when the market tests our
convictions.


BOTTOM-UP, ACTIVE APPROACH

The Japanese Equity Selection strategy takes a focused, active approach to
investing. This results in a concentrated portfolio of circa 40 large-cap
stocks. The team’s style agnostic approach helps to build a resilient,
diversified portfolio.

[1] As of 01.06.2023.
[2] Based on the median leverage ratio for each GICS sector, and then taking the
median of all of those to give an index average. Using FY 2022 data.
read more
Japan: the land of rising prices?
The return of inflation in Japan should prompt further normalisation of monetary
policy and trigger a rerating of its equity market.
Sam Perry, Steve Donzé, Nikolay Markov
January 2023

Japan Inc is ripe for change
Corporate Japan's governance overhaul is about to enter a new phase, boosting
the long-term appeal of Japanese stocks.
Sam Perry
April 2023

Equities
Our investment teams manage a range of equity strategies across styles and
regions

About

Sam Perry



Sam Perry joined Pictet Asset Management in 1997 and is a Senior Investment
Manager in the Japanese Equities team. Sam graduated from the University of
Oxford with a first class degree in Philosophy and Psychology. He holds a
doctorate in Experimental Cognitive Psychology, also from the University of
Oxford. He is also a Chartered Financial Analyst (CFA) charterholder.

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Important legal information

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is neither directed to, nor intended for distribution or use by, any person or
entity who is a citizen or resident of, or domiciled or located in, any
locality, state, country or jurisdiction where such distribution, publication,
availability or use would be contrary to law or regulation. The latest version
of the fund‘s prospectus, Pre-Contractual Template (PCT) when applicable, Key
Information Document (KID), annual and semi-annual reports must be read before
investing. They are available free of charge in English on
www.assetmanagement.pictet or in paper copy at Pictet Asset Management (Europe)
S.A., 6B, rue du Fort Niedergruenewald, L-2226 Luxembourg, or at the office of
the fund local agent, distributor or centralizing agent if any.

The KID is also available in the local language of each country where the
compartment is registered. The prospectus, the PCT when applicable, and the
annual and semi-annual reports may also be available in other languages, please
refer to the website for other available languages. Only the latest version of
these documents may be relied upon as the basis for investment decisions.

The summary of investor rights (in English and in the different languages of our
website) is available here and at www.assetmanagement.pictet under the heading
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The list of countries where the fund is registered can be obtained at all times
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arrangements made for the marketing of the fund or compartments of the fund in
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The information and data presented in this document are not to be considered as
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Information, opinions and estimates contained in this document reflect a
judgment at the original date of publication and are subject to change without
notice. The management company has not taken any steps to ensure that the
securities referred to in this document are suitable for any particular investor
and this document is not to be relied upon in substitution for the exercise of
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each investor and may be subject to change in the future. Before making any
investment decision, investors are recommended to ascertain if this investment
is suitable for them in light of their financial knowledge and experience,
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in this document may fall as well as rise and, as a consequence, investors may
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shall not be considered as a direct offering, investment recommendation or
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Past performance is not a guarantee or a reliable indicator of future
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Any index data referenced herein remains the property of the Data Vendor. Data
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Individual investors Institutional investors and consultants Financial
intermediaries
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