After three long decades of slumber, the world’s third-largest economy has finally awakened — in 2024 alone, the Nikkei 225, Japan’s benchmark stock market index, hit an all-time high of over 42,000 points according to Reuters. By most measures, Japan’s stock market has been on a stellar run, with the combined market capitalisation of Tokyo Stock Exchange’s prime-listed stocks hitting JPY 1,000 trillion ($862 billion) for the first time.
The sudden roar of the Nikkei is by no means a coincidence. Years of economic conservatism in which companies practised prudent financial management have led to unique circumstances that the stock market finds itself in today.
Nikko AM, one of Japan’s largest asset managers, says that investors are increasingly taking note, having been drawn by the rise of “cash-rich companies” and government reforms to boost capital efficiency and shareholder distributions.
The firm, which won the title of “Best Japan Equity Manager” in Citywire’s Asia Asset Management Awards just this year, explains why the Japanese economy is now proving to be more promising than it has been in decades.
With emerging investment opportunities and progressive policies, Nikko AM says that investors looking to diversify their portfolio away from US or European equities should not sleep on the Japanese opportunity today.
Rise of cash-rich companies
Fuelled by its rapidly growing manufacturing, trading, financial and real estate sectors in the mid-1980s, Japan’s asset bubble burst in the early 1990s. Brought back to sobering reality, many Japanese firms adopted a highly cautious approach, channelling profits into savings rather than reinvesting in growth.
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This trend, which helped shape the prolonged economic stagnation and deflation that followed the bubble, has transformed Japanese corporations into some of the world’s most cash-heavy entities. Today, these companies collectively hold cash reserves exceeding JPY 300 trillion, which equates to nearly half of Japan’s gross domestic product (GDP), according to the Ministry of Finance, Japan and its Financial Statements Statistics of Corporations as of end-March 2024.
According to Nikko AM, while a cash build-up was once seen as overly conservative, it has proven advantageous in today’s volatile markets, enabling Japanese firms to remain resilient through economic fluctuations. Cash-rich firms hold sufficient reserves to cover all liabilities without relying on additional debt, creating a financial buffer that enhances stability.
“Companies like Nintendo, Recruit Holdings, and even smaller firms across technology, manufacturing, and services have maintained strong cash balances. This provides a unique opportunity to deploy resources more actively to enhance shareholder distribution and spur innovation,” the analysts explain.
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Such a financial resource has attracted global interest — Japanese firms are suddenly viewed as potential sources of growth and opportunity, especially with governance reforms and the inflationary environment encouraging a shift from cash-hoarding to more dynamic capital deployment.
Impact of corporate governance reforms
Recent years of corporate governance reforms have been instrumental in leading to more capital efficiencies, Nikko AM notes.
The push for reform began in 2013, under the economic policies of former Prime Minister Shinzo Abe, popularly known as “Abenomics”, which sought to lift Japan out of two decades of economic stagnation by prioritising corporate governance improvements alongside monetary easing and fiscal stimulus.
The Stewardship Code, introduced in 2014, encouraged Japanese companies to align their strategies with shareholder interests. This was followed by the Corporate Governance Code, introduced in 2015, which incentivised companies to adopt practices fostering sustainable growth and shareholder engagement.
In March 2023, the Tokyo Stock Exchange urged companies to increase their return on equity, and listed companies were expected to use their capital efficiently by setting clear targets for dividends or buybacks.
This reform led many firms to disclose medium-term plans for capital investment and cash utilisation, a move that resonates with shareholders who have long advocated for better returns, says Nikko AM. Firms like Komatsu, Toyota and Recruit Holdings are some that recently announced ambitious buyback programmes.
“For long-term investors, this trend presents an opportunity to gain consistent returns through dividend yields, while benefiting from potential stock appreciation as companies repurchase shares,” says Nikko AM’s team.
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The shift from deflation to mild inflation is also helping to create new opportunities. Historic wage hikes from the shunto or spring labour negotiations have fuelled optimism, resulting in consumer prices rising and the stock market showing sustained gains.
“Should this trend continue, even a slight increase in consumer spending could have a substantial impact on Japan’s GDP, as consumption remains a large part of the nation’s economic engine,” notes Nikko AM’s team.
Opportunities for investments
As it stands, a substantial number of Japanese value stocks are deemed by some analysts to be underpriced, trading below their respective book values. This applies especially to the stocks of small and medium-sized companies that are not as well-researched and therefore appreciated by the wider investing community.
Note: 47% of TOPIX Index receive zero coverage from sell-side analysts vs 1% for S&P1500. This offers potential to uncover opportunities overlooked by the market through proprietary research. Bloomberg as at end-December 2023.
This presents some exciting investment opportunities, particularly for active managers, as nearly half of the Tokyo Stock Price Index (TOPIX) companies are not covered by sell-side analysts, according to Nikko AM (Chart 1).
Nikko AM provides in-depth bottom-up research on a company to help investors invest with conviction and avoid value-trapped stocks. With years of research and on-the-ground experience, Nikko AM’s actively managed funds which leverage proprietary research and local insights are well-positioned to uncover opportunities among under-researched Japanese companies.
Since June 2024, the Japanese equity market has often been dragged by investors’ concern over a pace of rate hikes, yen appreciation, global semiconductor momentum and elections in Japan and the US.
As a result, valuations remain near 10-year historical averages despite improving mid to long-term fundamental outlook. Nikko AM believes that investing in these undervalued stocks — particularly stocks of small to medium-sized companies— could deliver excess returns.
Finally, the equity team says three sectors in Japan are likely to create significant value: technology and automation; healthcare; and consumer and retail.
As companies around the world invest in automation to address labour shortages, Japanese firms supplying these solutions are expected to see strong demand.
Keyence is one that will benefit from domestic and international market demand with their global reputation as leaders in electronics, Nikko AM notes.
Companies like ASKA Pharmaceutical Holdings, which specialises in products that address social issues such as gynaecology and declining birth rates, are gaining traction among investors amid an incoming silver tsunami.
Fast Retailing, the company behind the ubiquitous casual apparel brand Uniqlo, has been a prime beneficiary of Japanese households increasing spending. It has also expanded its operations domestically and globally to meet rising demand, making it poised to capture domestic and international customers.
Over the years, Nikko AM has been able to establish strong relationships locally. Being one of the largest asset managers in Japan helps facilitate informative dialogue with these Japanese companies. Nikko AM is able to gain unique insights into the companies that it carries research on and tap into opportunities that may have otherwise been overlooked.
As Japan continues on this path, it stands out as a compelling investment destination. The reforms aimed at capital efficiency, combined with sector-specific growth opportunities and a stable political stance, makes Japan’s corporate sector increasingly attractive — it is an evolving market ripe with opportunities for both growth-focused and risk-averse investors alike.
To learn more about Nikko Asset Management, visit us at www.nikkoam.com.sg
*Reference to any particular securities or sectors is purely for information only and does not constitute a recommendation to buy, sell or hold any securities or to be relied upon as financial advice in any way.
Important Information: This document is purely for informational purposes only with no consideration given to the specific investment objective, financial situation and particular needs of any specific person. It should not be relied upon as financial advice. Any securities mentioned herein are for illustration purposes only and should not be construed as a recommendation for investment. You should seek advice from a financial adviser before making any investment. In the event that you choose not to do so, you should consider whether the investment selected is suitable for you. Investments in funds are not deposits in, obligations of, or guaranteed or insured by Nikko Asset Management Asia Limited (“Nikko AM Asia”). Past performance or any prediction, projection or forecast is not indicative of future performance. The information contained herein may not be copied, reproduced or redistributed without the express consent of Nikko AM Asia. While reasonable care has been taken to ensure the accuracy of the information as at the date of publication, Nikko AM Asia does not give any warranty or representation, either express or implied, and expressly disclaims liability for any errors or omissions. Information may be subject to change without notice. Nikko AM Asia accepts no liability for any loss, indirect or consequential damages, arising from any use of or reliance on this document.
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