This time it really is different for Japan, says top manager

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Polar Capital Japan manager James Salter expects Japan’s policy makers to be able to keep a tighter rein on their currency's volatility as sentiment shifts further behind Prime Minister Shinzo Abe’s monetary easing strategy.

Euro Stars A-rated Salter told Citywire Global that with five of the Bank of Japan’s nine monetary policy committee now sharing Abe’s dovish view on fiscal easing there were profound changes taking place for not only fiscal policy but also monetary policy.

There is now a renewed focus on discouraging currency speculators and stabilising the currency at a lower level against the dollar.

The manager switched to a positive stance on Japanese equities at the end of November, boosting his exposure to exporters and autos in particular, as well as adding to domestic infrastructure-related stocks and reducing defensive exposure.

He told Citywire Global: ‘In November share prices were not reacting as we expected to the start of Abe’s vociferous noises about pushing the value of the yen down [and ] we were two to three weeks late in shifting to a positive stance.’

Plan to drive down currency and lower volatility

‘A fiscal change in policy is not new but the monetary change is,' said Salter.

'Japan mirrored the rest of the developed world in relative [stockmarket] performance between 2003 and 2007 but it was only after Lehmans that corporate profits diverged because they were trying to cope with an exchange rate of 75 yen [to the dollar] which proved impossible.’

Now, Salter says that Abe is determined to drive the currency to around 100 -110 versus the dollar – and to try to keep it there.

‘I think something quite profound is going on. I don’t see a massive desire to drive the currency to 150 [versus the dollar] but I expect him to drive it to 110-110 and try to keep it there.'

'Volatility has been almost impossible to manage so if Abe can get it to around 100 he can threaten the currency speculators. He will certainly continue to be hostile to those who would try to destabilise the currency.'

Salter is optimistic that the weaker yen and abundant liquidity can continue to support the equity market rises for a further 18 month period despite the market ‘going very far, very fast.’

‘Retail investors have become quite active again but we would want to see more rising wages and tax changes. At 90 yen [to the dollar] it would put the Japanese market on 10x earnings, but the country needs to stabilise the currency at 100 and get companies to bring their capital expenditure back to Japan.’

‘For now the market has taken a breather with the Topix index currently at around 970. [We think] investors might be prepared to pay 13 to 14 x for the market. In a bullish case the Topix could get back to the 1400 level, which would only take it to its pre-Lehmans level, but certainly to 1250 by June next year.'

Salter says the biggest beneficiary of the weakening yen has been the autos sector and he has taken it overweight through the recent additions of Nissan, Mazda and Honda, although he has now sold Toyota after a sustained strong run.

Overall the fund now has 17% in the autos sector against the benchmark’s 11.5%.   

'Nissan was added as it has been heavily de-rated on concerns over slowing sales to its biggest market China, but all three can benefit from a falling yen as the majority of their production is in Japan itself.'

'Nissan, Honda and Mazda are all very currency sensitive. Their costs are in yen but their sales are in US dollars. At 100 yen [to the dollar] Nissan will be making 168% of its pre-Lehmans profits while Mazda, which has 80% of its production onshore,  will be making 147%.'

Structural headwinds

While a weaker yen should also help the embattled technology sector, Salter believes the sector still faces a raft of structural headwinds.

‘Consumer electronics companies have come under threat from Korea and the PC cycle has turned in favour of smartphones and iPads.’

With electronics remaining an underweight, Salter’s other key overweight is financials which make up around 26% of the all cap fund against the benchmark’s 17%.

He is doing well from a raft of non-life insurers and real estate companies in the sector, including venture capital firm and core holding Jafco which has doubled in share price in the last few weeks.

Elsewhere the fund now has just 4% in defensives against the benchmark’s 17% and Salter has been looking to add exposure to housing material companies as the long awaited rebuild post tsunami gathers pace. Recent additions here have included ceramic exteriors specialist Nichiha.

‘Japanese bureaucracy has stopped the post tsunami build happening fast but there now appears to be a renewed determination to deal with it.’

Over five years to the end of January, the fund has returned 46.1% compared to the Topix index’s 13.3% return.

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