U.S. Buyers See Death of Japanese Bear
The Japanese may not believe it, but their 3-year-old bear market is finally over.
That’s the unambiguous message from a host of American investment strategists, many of whom have been big buyers of Japanese stocks this year.
Indeed, the Nikkei stock index’s climb from 16,924.95 on Jan. 1 to 18,788.70 by Friday has been fueled by heavy cash inflows from foreigners.
Accentuated by the yen’s new strength, the Japanese market has been the best-performing major foreign market this year measured in dollar terms: Through last Thursday the Tokyo market was up 16.7% year-to-date in dollars, versus a 3.3% rise for U.S. stocks.
The list of American-based Japan bulls continues to grow:
* Shearson Lehman Bros.’ global market strategist, Steven H. Nagourney, last week slashed his U.S. stock weighting in the firm’s global portfolio to 30% from 40%--and advised doubling the Japanese weighting to 20% from 10%.
* Christian Wignall, strategist at GT Global funds in San Francisco, has raised Japanese stocks to 15% of his typical international portfolio, from 10% on Jan. 1.
* Suresh Bhirud, head of Bhirud Associates in New York, last week advised clients that “globally oriented investors should be buying Japanese stocks now.” The Nikkei’s rally this year “is a confirmation of our thinking that the asset deflation in Japan is over.”
Viewing Japan from an ocean or more away, these gaijin (foreigner) bulls believe they can be more objective about that market’s prospects than the beleaguered Japanese themselves.
It’s true, say the Americans, that the backdrop remains dismal: Corporate profits are plummeting, banks are on shaky ground, the government is wracked by scandal, and the strong yen is making Japanese exports more expensive.
But it’s also usually true that the ideal time to buy any asset is when the outlook is darkest. And in Japan, “things really can’t get any worse,” Wignall argues.
Moreover, he notes, all bear markets eventually end, and the 3-year-old Japanese market slump “is a very long time for any bear market.” The Nikkei index peaked at 38,916 on the last day of 1989. At its low last summer, the index reached 14,194, a 63% plunge from the all-time high.
Americans, in fact, have been big net buyers of Japanese stocks for the last two years, as the Japanese have bailed out.
U.S. Treasury Department figures show Americans bought just $623 million more in Japanese stocks than they sold in 1990, as the Nikkei’s bubble burst and it fell to 23,849 by the end of that year.
But in 1991, American net purchases of Japanese stocks rocketed to $13.8 billion. Last year, net purchases totaled a still-heavy $3.8 billion through Sept. 30.
Those statistics raise an interesting question, however: If many Americans have been early all along in betting on the Japanese market’s bottom, why believe that the current wave of optimism should accurately predict a new Japanese bull market?
Shearson’s Nagourney, who has been negative on Japan since March, 1989, argues that many early buyers of Japanese stocks in 1991 and 1992 failed to understand that they weren’t dealing simply with a classic bear market.
Because the Japanese market had become so incredibly overvalued at its speculative peak in 1989--driven by the easy money of the ‘80s and the concurrent outrageous explosion of Japanese real estate values--Nagourney says that a typical bear decline of 20% could never fix what was wrong.
Rather, the market had to undergo two bear stages, he says:
* From 1989 through 1991, the Nikkei’s plunge represented a revaluation of Japanese asset prices back to historical levels, Nagourney figures. In other words, the bulk of the speculative excess was wrung out in that period.
* Last year, the Japanese market experienced a normal bear market decline, reacting to the onset of recession and subsequent drop in corporate profits, Nagourney says.
“What happened last year was the cyclical bear market that we (American stocks) experienced in 1990,” Nagourney says. Just as American stock prices in 1990 anticipated the 25% average plunge in U.S. corporate profits in 1991, likewise the Japanese market’s slide last year anticipated the current slump in Japanese corporate profits.
Now Japanese interest rates are falling, providing Japanese companies and investors with the same kind of environment that U.S. investors experienced in 1991 and 1992, Nagourney says: Low rates are a savior for banks, a boon for corporate borrowers and a disaster for savers that sends them searching for higher returns--often in stocks.
If you believe that Japanese corporate earnings will begin to rise again in the fiscal year beginning April 1, the Nikkei’s value could jump to between 20,234 and 25,020 in 12 to 18 months, Nagourney estimates (depending on the strength of the profit rebound). The low end would represent an 8% rise in the Nikkei from here; the high end, a 33% rise.
But will earnings recover? The Japanese seem to think so: In the latest Bank of Japan “Tankan” survey of business, major manufacturers project a 4.4% rise in pretax profit in the new fiscal year--the first increase in four years.
The GT Funds’ Wignall, noting the sudden wave of layoff notices from Japanese firms, says that “we’re beginning to see these companies take steps to cut costs and do the things necessary to turn themselves around.”
Of course, that also implies more economic stress: Japanese workers may lose confidence in their own finances as layoffs mount. What’s more, even at today’s depressed levels, Japanese stocks’ price-to-earnings ratios are double or triple those of most other nations.
Stock P-Es aren’t directly comparable because Japanese accounting practices tend to hide profit. Still, many experts warn that buying Japanese stocks today entails significant short-term risk: A lot can go wrong before a real economic recovery begins. If investors lose faith, stocks could dive anew.
Elizabeth Allan, manager of the New York-based Japan Fund, remains wary of the market in the short run. But she is quick to add, “Taking a one-year view, I think Japan is the place to be.”
Mutual Fund ‘Pure Plays’ on Japan
Here are the six mutual funds that invest almost exclusively in Japanese stocks, how they’ve fared each year since 1990, and their year-to-date performance through last Thursday. Note that although the Capstone fund is the biggest winner this year, it also was the biggest loser in this category for each of the last three years.
Fund Total investment return: (phone number) 1990 1991 1992 1993 Capstone Nikko Japan (800-262-6686) -37.0% -0.3% -28.9% +15.3% Fidelity Japan (800-544-8888) NA NA -0.4% +14.0% DFA: Japan Small Co.* (310-395-8005) -33.4% +7.1% -26.1% +13.0% Japan Fund* (800-225-2470) -16.4% +3.1% -16.8% +9.7% T. Rowe Price Japan* (800-638-5660) NA NA -13.4% +8.9% GT Global Japan (800-824-1580) -28.7% -2.8% -21.5% +7.7% Average U.S. stock fund -6.3% +35.6% +8.9% +2.4%
* indicates no-load fund
NA -- not applicable (fund wasn’t yet in existence)
Source: Lipper Analytical Services Inc.
