ETFs for Japan’s ongoing turnaround

Apr 5th, 2018 | By | Category: Equities

FACTOR INVESTING - THURSDAY 14TH JULY 2022 (08:15-11:30) - THE BERKELEY, LONDON Please join us for our annual factor investing breakfast briefing with participation from MSCI, FlexShares ETFs, Tabula and Professor Stefan Zohren, Deputy Director of the Oxford-Man Institute of Quantitative Finance. Please register now if you would like to attend.


The Japanese stock market has come a long way since the ‘lost decade,’ a period of severe economic stagnation for the country from 1991 to 2000 and arguably the decade beyond. Fast forward to today, improved corporate governance and accommodating policy have both played a hand in reviving investor confidence in the region, and Japan is once again on investors’ radars. ETFs are a great way to play this story and there are a multitude of options for investors.

Japan has been rebuilding its economy and reviving investor confidence

Japan has been rebuilding its economy and reviving investor confidence.

Although the Nikkei 225 Index is still a far cry from its all-time high (which occurred in December 1989 when it reached 38,957 points) it has roughly tripled to its current level of just over 21,000 (as 28 Feb 2018) in less than ten years.

Much of this could be attributed to Prime Minister Shinzo Abe’s “three arrowed” Abenomics recovery plan for the Japanese economy.

The first arrow aims for extreme monetary easing in the form of the Bank of Japan’s (BoJ) massive bond-buying programme, resulting in a tightening of the yield curve and hence lower interest rates on company borrowings.

In the wake of this quantitative easing, the yen has depreciated significantly versus the dollar, from around 75 JPY/USD in 2011 to roughly 105 JPY/USD at the time of writing; this has boosted Japanese company exports by making them cheaper for foreign buyers.

The second arrow targets the propping up of fiscal stimulus by increasing government spending and decreasing tax receipts. In 2013, for example, the Japanese government injected an additional $114 billion into infrastructure projects to help rebuild the nation’s economy. Looking ahead, the 2018 Japan Tax Reform Proposal has been set in motion and promises favourable tax cuts to further shore up business and consumer spending.

The third and final arrow centres on structural reforms. Examples of structural corporate governance reforms at play are Japan’s publishing of two stewardship codes; the former encouraging shareholders to be more vocal with management to streamline returns and the latter furthering transparency and company engagement with said shareholders.

Recent political events in the country have restocked the Abenomics quiver, with Abe’s landslide election victory in October 2017 extending his term in office. Haruhiko Kuroda, an advocate of looser monetary policy, was also re-elected to serve another five-year term as the governor to the BoJ. Both Abe and Kuroda are dead set on continuing to strengthen the investment outlook for the region through their respective fiscal and monetary channels.

So far this year the Nikkei has taken a beating as global equity markets went through a correction. The Nikkei may have been oversold in this process, however, as it shed around 10% – a significant loss in comparison to the MSCI World Index’s much smaller loss of roughly 3% as of writing.

This correction may also be short-lived according to some market commentators, with a possible rebound on the cards amidst continued stimulus from the BoJ.

In a recent research paper from Lyxor, the ETF issuer noted that rising company wages were unlikely to reduce stimulus from the BoJ: “The outcome of this year’s [wage] negotiations should still help to drive up domestic consumption, but the rate of wage growth won’t be enough to clear the hurdles hampering the BoJ’s attempts to scale back stimulus. The combination of a negative corporate savings rate and strong wage growth driven by productivity gains – which could draw the deflation era to a definitive end – remains elusive.”

Jesper Koll, head of Japan at ETF issuer WisdomTree shared a similarly dovish view: “there is a growing probability of the “dovish” faction gaining momentum, with at least two (and possibly three) of the nine board members voting for added monetary stimulus. The reason for this is not just the changing composition of the board—Masazumi Wakatabe, the newly appointed deputy governor, is a longstanding super-monetarist who believes there are basically neither limits nor costs to what a central bank can do; more importantly, incumbent board members won’t be able to deny the rising visibility of down-cycle risks in Japan’s economy.”

Investors seeking Japan exposure have an array of interesting ETFs to choose from.

If additional monetary stimulus does eventually materialise, then the yen will likely weaken further. This could benefit the currency-hedged WisdomTree Japan Equity UCITS ETF (TER 0.45%) from WisdomTree. Available in USD, EUR, GBP and CHF hedged share classes, the ETF consists of Japanese dividend-paying companies that derive less than 80% of their revenue from sources in Japan. By excluding companies that derive 80% or more of their revenue from Japan, the fund is tilted towards companies with a more significant global revenue base, i.e. those companies likely to benefit most from a weaker currency.

The Source STOXX Japan Exporters UCITS ETF (JPEX LN) (TER 0.35%) from Invesco is another fund which focuses on exporters, and is in fact more of a ‘pure-play’ option. It invests in Japanese companies from within the STOXX Japan 600 Index that generate at least 50% of their revenues from outside of Japan. However, the fund is unhedged which means the benefit of a weaker yen to exporters is potentially offset by the currency loss to the overseas investor.

Indeed, this is something that all investors need to bear in mind when investing in Japan, and which can be risk-managed with the use of currency-hedged ETFs, which are available from many of the providers.

For generic low-cost Japan equity exposure, the Xtrackers Nikkei 225 UCITS ETF (XDJP LN) is the cheapest ETF at 0.09% (TER). This fund, which tracks the Nikkei 225, has roughly $746 million in assets under management (AUM) as of writing. However, many investors steer clear of price-weighted indices, and so the next cheapest is the recently launched Lyxor Core MSCI Japan (DR) UCITS ETF (LCJP LN) from Lyxor at 0.12%. Linked to the MSCI Japan Index, the ETF covers approximately 85% of the free float-adjusted market capitalisation in Japan.

The largest European-listed Japan ETF – and perhaps the most liquid – is the iShares Core MSCI Japan IMI UCITS ETF (SJPA LN). It tracks the MSCI Japan Investable Market Index, which comprises large, mid and small cap Japanese stocks, covering approximately 99% of the free float-adjusted market capitalization in the country. The fund, which trades in dollars, euros and pounds sterling, has AUM of $4.2 billion and a total expense ratio of 0.20%.

Tags: , , , , , , , , , , ,

Leave a Comment