Standard Life Investments

Published Article

Investment Week – Japan


Let the Games begin!

Japan’s stock markets have reacted positively to the news that Tokyo is to host the 2020 Olympic and Paralympic Games. The shares of companies perceived as likely direct beneficiaries of the Games, including construction, infrastructure and media stocks, have made particularly strong gains.

We expect this Olympics-related ‘bounce’ to prove relatively short-lived. In our view, Olympics exposure alone does not provide a standalone rationale for investing in such stocks. But we also believe that there are a whole range of positive drivers supporting the case for making medium to long-term investments in selected Japanese companies with domestic construction/infrastructure exposure.

Built on success

Mitsui Fudosan is one of Japan’s largest property developers and real estate services providers. It has reported strong sales of its high-quality condominiums and increased demand for rented office space in and around Tokyo in the wake of the 2011 earthquake (many of its buildings are built with earthquake resistant technology). In more recent months, the company has seen its prospects significantly boosted by the more buoyant economic conditions triggered by the far-ranging stimulus initiatives (known as Abenomics) being implemented by Prime Minister Shinzo Abe’s government. This more vibrant economic backdrop has resulted in an increase in commercial and residential property transactions and, consequently, a stronger pricing environment for real estate players.

Prime Minister Abe has promised to deliver a ‘compact’ Games, with construction to be concentrated in a relatively confined space. Mitsui Fudosan’s considerable construction project management expertise, as well as its access to Tokyo’s limited landbank, suggests that it is well positioned to benefit from Games-related building.

Made of steelier stuff

Meanwhile, an upturn in construction levels should clearly also prove positive for those companies that supply the construction industry with raw materials. One such company is Nippon Steel & Sumitomo Metal Corporation (NSSMC), which emerged in 2012 following the union of Nippon Steel and Sumitomo Metal. We took a positive view on the merger since, as Japan’s largest steelmaker, NSSMC’s cost base looked set to benefit from significant economies of scale. Like Mitsui Fudosan, NSSMC is also experiencing more supportive conditions in which to do business as a result of Abenomics.

The correction of the yen driven by the Bank of Japan's commitment to monetary easing is enhancing the competitiveness of many of NSSMC’s key customers (including Japan’s largest auto manufacturers). This is driving up their steel requirements. The weaker yen also appears to be undermining the competitive threat to NSSMC from its Asian steelmaking peers, which can no longer offer such significant cost advantages.

The Abenomics agenda includes plans to update Japan’s aged infrastructure. The Games are likely to prove the catalyst that gets a whole range of infrastructure construction projects under way. The resulting increased demand for steel should prove yet another positive for NSSMC.

In conclusion, while the Olympics bounce is likely to be only a temporary phenomenon, we think the Games should prove a positive trigger in terms of supporting Japan’s newly-regained feelgood factor over longer timeframes. We would expect this to further underpin stronger consumer and corporate confidence and to drive greater levels of business activity overall. Signs of positive change are already in evidence in Japan, with domestic consumption, for example, on an improving trend.

Hitting the shops again

People are still being careful about what they spend on day-to-day essentials, but they seem more comfortable about spending a bit more on some discretionary items, like clothes for example. Higher summer bonus payments also appear to be encouraging Japanese consumers to shop. Japanese workers are paid seasonal bonuses in June-July and again in December. These are usually equivalent to several months’ salary, but are contingent upon company performance. The stronger earnings being reported by many Japanese companies fed through into higher bonuses during the summer. In addition, a new inheritance tax seems to be encouraging older people in particular to spend more, rather than seeing the tax eat into the legacies they have accumulated for their descendants.

All these factors in combination seem to bode well for a wide range of Japanese businesses whether or not they will be direct beneficiaries of Games-related spending.

On this basis, we believe that Japan’s stock markets have plenty of room to make further gains following their impressive rally since Prime Minister Abe came to power in late 2012. We believe that the key to identifying those stocks with most upside potential from here is to focus on companies whose improving underlying fundamentals are not yet fully reflected in their share prices. We also believe that extensive on-the-ground resources within Japan that are firmly focused on companies’ bottom-up fundamentals are essential to identify these potentially superior investment opportunities.

Shigeru Oshita, Chief Portfolio Manager Sumi Trust for Japanese Equity Growth Fund, Standard Life Investments

Published in Investment Week 23rd September 2013