Investing in Japan with investment trusts

How closed ended funds can support your investments in Japan…

Back in 1988, in the midst of Japan’s meteoric economic growth, American political commentator Paul Harvey complained the US was facing an “economic Pearl Harbour” from its ostensible ally across the Pacific.

His comments reflected a widespread fear that Asia’s then-largest economy would soon surpass the US as the world’s wealthiest nation and emerge as a global superpower.

As most investors today know, that didn’t happen. A crash in asset prices started only a couple of years after Harvey made his hyperbolic claims and Japan has not been in a position to challenge the United States’ hegemony since.

Japan’s GDP remains lower than it was in 1995 and the country’s ageing population and high level of public debt continuing to weigh on investors’ enthusiasm for its publicly-traded companies.
 

It’s not (just) the economy, stupid…

 
But just as markets were overly optimistic about Japan’s prospects 30 years ago, the tendency to see things through the prism of its subsequent macroeconomic profile means investors can end up missing out on the opportunities that Japanese equities may offer.

In sterling terms, the TOPIX delivered annualised total returns of 9.2% in the decade up to the end of 2022. That was inclusive of an extremely poor year in 2022, when global markets were hit by the combination of rising inflation and Russia’s invasion of Ukraine.

Aside from the S&P 500, not many indices produced these sorts of returns over the same period. Indeed, the TOPIX returns were superior to those delivered by the FTSE 100, Euro STOXX 50 and the MSCI Emerging Markets indices over the same period.

Several factors likely contributed to that stellar performance. On a simple level, Japanese stocks had been pushed down to low valuations after the financial crisis, which some investors clearly believed didn’t reflect their true worth.

There was also a change in attitude following Shinzo Abe’s election in 2012, with the former prime minister’s economic reform program, ‘Abenomics’, encouraging firms to raise profitability and resulting in regulatory reforms that allowed shareholders to put greater pressure on management when seeking changes in company policy.

Most notably, businesses were encouraged to appoint independent directors to their boards and there was a greater focus on delivering a strong return on equity to shareholders.
 

What does the Japanese market look like?

 
Japan’s stock market gives investors access to a broad range of sectors. The TOPIX contains companies in everything from fishing and ceramics to financial services and shipbuilding.

Semiconductor producer Tokyo Electron, Uniqlo owner Fast Retailing, and investment group Softbank, provide simple examples of the firms available to investors.

The Japanese economy remains heavily tied to the US and China, with the latter being both the biggest source of its imports and exports. This was part of the reason the market struggled in 2022, as the latter country maintained strict lockdowns and significantly reduced its imports from Japan.

However, other East Asian economies, such as Taiwan, South Korea, and Thailand, are still major trade partners. Listed companies in Japan also have substantial exposure to the domestic economy as well.

The strong ties to the US and China mean that Japanese stocks have tended to experience the same sort of major shocks that listed companies in those countries have experienced over the past couple of decades.

Having said that, Japan’s economy has far greater ties to East Asia than the UK or US does, making it a diversifier for investors looking to have exposure outside of those regions.
 

Why it’s hard to invest directly in Japanese stocks

 
Any UK investor who finds these stats appealing and is looking at how to invest in Japanese stocks may realise it’s trickier than accessing some other foreign markets, like Europe or the US.

A basic problem is many investment platforms simply don’t offer access to Japanese equities. Those that do often have large minimum order sizes and hefty dealing fees, as well as a fairly small selection of stocks.

Aside from these hurdles, individual investors also have to contend with some of the idiosyncrasies of Japanese corporate life.

About half of small and mid-cap Japanese stocks have one or no analyst covering them. Compounding this is the fact that many of these companies don’t release financial reports or trading updates in English.

Along with a dearth of third-party English-language information, this makes it difficult to evaluate prospective investments. Active investors are thus left with something of an uphill battle if they want to invest in Japanese stocks.
 

Why investment trusts can be the best way to get exposure to Japan

 
Japan-focused investment trusts provide a way around these problems. As London-listed funds, they’re easily accessible to individual investors but still provide exposure to Japanese shares, without any outsized dealing fees or high minimum order sizes.

They are also likely to have a team of equity analysts with strong expert knowledge. This arguably means they’re better able to capture the nuances of the local market and identify promising investment opportunities than an individual struggling to run a company’s Q1 results through Google translate.

And that points to another strength, which is that investment trusts can take an active approach to the market. Like any other country, Japan has companies from a range of sectors that offer opportunities to both value and growth investors.

Investment trusts can take a broad or more refined approach to this by focusing on a particular area of the market. Their smaller size, along with that local expertise, also means they can move down the market cap scale to get exposure to companies that large funds may be unable to touch.

Full research on CC Japan Income and Growth here >
 

Disclaimer

Disclosure – Non-Independent Marketing Communication

This is a non-independent marketing communication commissioned by CC Japan Income & Growth. The report has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is not subject to any prohibition on the dealing ahead of the dissemination of investment research.