The Japanese equity market has underperformed most major stock markets in the world so far this year, with gains of 9% compared with more than 15% for global and Eurozone equities. Japan’s markets will be closed for an extended golden week holiday from 27 April to 6 May to celebrate the Imperial succession. International investors, who account for 60%–70% of Japan’s stock market trading volume, are still not net buyers. Many remain cautious after Japanese shares fell sharply during the 2018 year-end holiday season due to lack of liquidity.
But we think the market is ready to start catching up to its peers and that international investors will come back to the market once the 10-day holiday period is over:
- We expect corporate earnings growth to improve year-on-year for the next four quarters. Capital expenditure at Chinese companies decelerated by more than we had expected, so we have cut our forecast for Japanese FY2019 (which ended on 31 March 2019) corporate earnings – we now expect net profit will have fallen 6% (versus a 3% drop previously). But we think the poor performance of the Japanese equity market so far this year already reflects most of the negative news. We have increased our FY2020 forecast from +1% to +3%, as we expect a recovery in Chinese companies’ capital expenditure to lead to a moderate rebound in Japanese corporate earnings in the second half of this year.
- Over the past six months, the Japanese market has lagged the Eurozone by 11 percentage points, its sharpest underperformance since 2016. While both the Eurozone and Japan are heavily geared to the global cycle, the Eurozone has priced in the recent improvement in economic data – especially in China – while Japan has not.
- The VAT hike expected in October will likely be less negative than the market anticipates. We think the Abe administration’s active economic stimulus package, most likely JPY 2–3tn, should support domestic household consumption.Eurozone stocks now look expensive compared to the Japanese market. The Eurozone's forward price-to-earnings ratio stands around 6% above the 10-year average, while Japan is still trading below its historical average. We have upgraded our investment stance on Japanese equities to overweight versus Eurozone equities in our tactical asset allocation.
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