Wednesday, January 9, 2013

Is Now the Time to Buy Japanese Stocks?

The Japanese stock market would seem to be a terrific opportunity.

The valuation of Japanese stocks is among the lowest among the developed markets.  At a price/book ratio of 1.1x, the Nikkei is trading at half the valuation of the U.S. market.

At the same time, consensus earnings growth estimates for 2013 are the highest among the same group of developed markets.  IBES EPS growth estimates for the stocks in the Japanese stock market are +18.6%, or more than double IBES estimates for U.S. stocks.

Led by new Prime Minister Abe, the Japanese government attempting to their own form of "quantitative easing" by instituting huge increases in government spending.  Abe is also aggressive pushing the Bank of Japan to even further open the monetary floodgates to pull the economy out of the deflationary gloom in which it has been mired for decades.

If successful, the Japanese government actions will doubtlessly weaken the yen, helping Japanese companies that have suffered in recent years with the relentless strengthening of the yen.

Finally, Japanese stocks are the most unloved group among global investors.  According to Merrill Lynch, a recent survey of fund managers indicates that holdings of Japanese stocks stands at 3.5 year lows. Merrill notes that Japan is just 7% of the global equity market, compared to 44% in 1988.

Here's what famed global investor Felix Zulauf said in a recent Barron's interview (as reported on Fusion Blog):

Fusion: How does Japan look right now? We note you called for shorting the Yen at a Barron’s conference in October – again, a very prescient call.
Zulauf: Japan’s economy is not doing well and still suffers from deflation. The pronounced deterioration of Japan’s current account and the disappearing ability to finance her own large budget deficits are forcing some important changes. The new government in Japan, led by the LDP and Prime Minister Abe, has a 2/3 majority in parliament and can push through their own will without any problem. Abe wants some increased deficit spending, on top of a budget deficit that is already near 10% of GDP. He wants the Bank of Japan to finance a big part of it by printing new money and thereby weakening the Yen and targeting 2% inflation. If the BOJ doesn’t comply, they have basically been told they will lose their independence as a central bank.  The spending will increase deficits further and weaken the currency, which should improve exports.  I see Dollar/Yen going to 120 within the next 2 years, and the Yen weakening decidedly against all major currencies.

Fusion: So you’re clearly still constructive on China and Japan …
Zulauf: China’s market rebound should at least last during the first half of this year. There is still another 20% to go. After a consolidation and pullback, you can buy FXI here to play it. As for Japan, I am much more bullish as nobody owns Japanese stocks. The total market cap of the market there is one quarter of what is was 23 years ago. If the currency continues to decline against all the others, there will be a tremendous lift to Japanese equities. The Nikkei has at least another 20% upside in 2013 and could do more and last longer, all in local currency terms.

So there you have it:  cheap markets; unloved stocks; and identifiable catalysts in the year ahead.

And yet:

Global managers have attempted to play a rebound in Japanese stocks for years. While there have been several periods of strong rallies, Japan has disappointed for years.  The Nikkei today stands at 10,578; in 1989, the Nikkei topped 39,000.

But is this time different?