Schroder Japan (SJG ) fund manager Masaki Taketsume believes the outperformance of the Japanese equity market this year is the real deal because it is driven by actual change and improvements in the Japanese economic structure.

The widely reported corporate improvements that have seen companies increase share buybacks and dividend payouts to the highest levels recorded is one of the major drivers of the Topix to a three-decade high.

Hand in hand with that is the return of inflation after decades of deflation or falling prices. Rising energy prices and wage growth have contributed to a positive inflation cycle, whereby businesses now pass on costs to price-sensitive consumers, which is a novelty. This means companies can grow revenues, which is a major structural change in Japan that has improved the investment outlook.

News of Warren Buffett, Berkshire Hathaway’s guru value investor, topping up his Japanese holdings last month has also been supportive, he added.

Japan is yet to feel the positive impact of Chinese tourism, which will be a huge boost to domestic consumption, Taketsume said, with most foreign visitors coming from the West and South East Asia.

‘This time around the market rally is driven by corporate governance improvements, which are actually happening rather than hoped for like Abenomics, and some expectation for the improvement in the Japanese economy structure, such as a positive inflation cycle. Compared to past rallies, there is a solid reason within Japan,’ Taketsume (pictured) told Citywire. ‘There is a solid reason.’

He added that while Japan has some longer-term issues, such as an ageing population, improvements in labour productivity through automation and robotics offered a solution.

He noted that while investors such as Elliott, AVI Japan Opportunity (AJT ) and Nippon Active Value (NAVF ) are defined as activists, every stakeholder makes an effort to improve companies.   

The £268m trust has an increasing bias to mid and small-cap companies that are more exposed to the improving domestic economy and sit within the framework of the value style of investing.  The larger sector weightings are machinery, electric appliances and information and communication.

Taketsume gave the example of retail company Seven & I, which won a proxy fight against foreign activist fund ValueAct Capital that sought a change in leadership at the annual general meeting in May.

The 3.3% holding generates almost half its profit from US convenience stores, a fragmented market which it is looking to consolidate. 

He noted that the proxy battle could also accelerate change because despite the company’s victory, the supporting vote for the chief executive was low, ‘sending quite a strong message.’

Year to date, the investment trust’s shares have climbed 9.3%, beating the Topix’s 6.8% and sector average of 6.4%. The main drivers of returns have been high quality exporters, such as Sony.

The Bank of Japan’s unexpected change in monetary policy, the ‘yield curve control’ measure of widening the band within which it has been maintaining 10-year bond yields, boosted the trust’s financial holdings as higher interest rates would lift margins.

Sumitomo Mitsui Financial Group, one of Japan’s largest banks, and T&D Holdings, a major life insurer both rose strongly as a result.

He added that while equities were soaring now, there are still challenges ahead, such as an ageing population, which Japan can deal with by improving labour productivity or increasing the labour market liquidity, which could yield a prolonged, sustainable Japanese equity market.

Since Taketsume took over management of the trust in July 2019, net asset avlue has risen 29.1% and the shares, 34%, beating the Topix, which returned 22.3%, according to Morningstar.  

The three largest shareholders on the register, according to Refinitiv, are value investors City of London, 1607 and Allspring who respectively hold 27%, 18% and 13% in the hope the trust’s 11% share price discount narrows if Japan’s momentum continues.

Performance under Taketsume

Source: Morningstar