The Bank of Japan’s exchange-traded fund buying scheme combined with ETF providers working with the government, has helped the Japanese ETF market boom with assets and flows now hitting record highs. Japan-listed ETFs and ETPs gathered a record US$9.24bn in net new assets in the first two months of the year.

The Japanese ETF market is booming on the back of BoJ stimulus and providers working with the government

Data from ETF consultancy ETFGI, also shows that at the end of March this year there were 171 ETFs/ETPS, 226 listings and assets of $143bn in the Japanese ETF market. This was across two exchanges and from 21 providers. Assets in Japanese ETFs/ETPs this year to the end of March have also increased by 4.6% from $136.5bn to $142.7bn, while flows in the first three months of the year hit $13.64bn.

The providers in Japan have also benefited from this growing ETF region. Currently Nomura, Daiwa and Mitsubishi UFJ are some of the largest players. Nomura gathered the largest net inflows YTD with $7.6bn, followed by Daiwa with $1.89bn and Nikko Asset Management (Nikko AM) with $1.64bn.

Nikko AM is an Asian head-quartered company that has been managing assets in Japan for 55+ years. It has subsequently increased its global reach, launching offices in New York and London in the 1980s, and in 2011 acquiring asset management businesses in Singapore and Australia. The firm offers a broad range of strategies in active, passive, equity, bond and multi-asset and it has assets under management of around $155bn.

In 2001 it became one of the first asset managers to launch ETFs in Asia – prior to this it ran passive mutual fund strategies (since 1986). Its first ETF was the Nikkei 225 in 2001 – which is also the firm’s largest with $13bn in AUM and costs 0.28%.

The ETF business is now one of the firm’s main industries in Japan with the majority of its ETFs listed in Japan and a handful offered in Singapore.

The London ETF Business

Until a few years ago the London office was the firm’s predominant fund management location – one from which it offered its global actively managed fixed income business. It has since broadened its asset management capabilities and investment strategy in London making the office vital for its distribution capabilities across fund managers.

Geoff Post, head of international product development at Nikko AM, explains that “The ETF business in London has subsequently developed over the last couple of years. We started with a proof of concept exercise to test whether there was any appetite from institutional investors for Japan-listed equity ETFs. The response was fairly conclusive in confirming that there was an appetite for ETFs with particular characteristics. These were mainly: ETFs with scale/size, low costs, high quality index tracking and execution for trading, which can be much better with domestic listed ETFs. This is because you execute when the underlying market is open and ETFs trading on the Japanese exchange when the market is open also have better transparency.”

Post explains that it is also able to be investor friendly, by offering material in English as well as Japanese and by making key ETFs UCITS and UK Reporting Regime compliant.

Investing in domestic markets

One of the biggest benefits of domestically listed ETFs is their ability to access the market when it’s open. This is unlike UCITS ETFs, which are somewhat blind when the market is closed. Domestic trading means investors are able to benefit from a tighter spread and lower volatility of price compared with UCITS ETFs, because they aren’t looking at prices out of hours.

The ETF client base is generally made up of fund managers running multi-asset portfolios and European pension funds. Sadly, due to certain regulatory and tax constraints the firm isn’t able to offer the products to retail advisers in Europe.

Post says: “The multi asset fund manager audience is where we have gained most traction and the reason for this is that institutional investors are able to see the benefits of investing in Japan through a domestic manager.”

For those investors going through Nikko AM the costs are also pretty competitive. The firm’s Topix ETF has a management fee of 0.13%, and of this Nikko AM takes a fee of 0.06%. “Which is a lot lower than even the likes of iShares or db X are doing,” wagers Post.

All the ETFs trade on the Tokyo stock exchange and in Europe there are 11 different strategies for investors to use, which is more than enough for the western investor, according to Post.

It means that for a manager running UCITS funds investing in an indexing scale business, then Nikko AM’s offering makes sense.

Investment Strategy

While the ETF business has traditionally focused on plain vanilla products, it has recently started to be more innovative with targeted ETFs. In November last year it launched the Listed Index MSCI Japan Equity High Dividend Low Volatility ETF, which it expects to see flows coming into this month as a result of the start of the Japanese tax year.

Post says: “The investors that are likely to want this product are those who have held Japanese bonds and have an outlook of negative interest rates – and are beginning to re-allocate parts of their portfolio away from bonds to something with lower volatility than equities. This was specially created for investors and it excludes financials as the group of investors we did this for did not want exposure to them.”

Then earlier this month Nikko announced it was due to launch an ETF that tracks a Japanese equity index made up of firms taking proactive and efficient measure with their investments in capital expenditure and human capital. The ETF, that is due to start trading later this week and tracks the JPX/S&P CAPEX & Human Capital Index, ties in with the mandate of the BoJ sponsoring a new ETF index.

Outlook

Despite the business in Europe being relatively young the firm’s outlook is to remain committed to the ETF business. There is roughly $27bn in AUM in ETFs, which comes from a total $36bn invested through Nikko AM in index strategies in total (the rest is in mutual funds and segregated accounts).

“It is a very important part of the global business to us and we are keen to develop this further by continuing to penetrate the institutional investor space,” says Post. “We want to continue to build out our global reach and diversify our investment strategy. We are traditionally used by Asian retail investors and now we want to diversify so we have a 50/50 retail/institutional split and Japan/non-Japan split.”

He adds: “We don’t assume the whole market will get what we are doing, but for the large sophisticated institutional investors that are comfortable with what we do, then we have a compelling story.”