Why you should add Samurai power to your portfolio
Japanese equities could be that additional hedge you were looking for. Tokyo is excited, as the momentum investors have been waiting for for the last 20 years may have just come. An unexpected yen depreciation which started when Abe took power last year, together with recovery of U.S. demand, a possible delay of the consumption tax hike initially planned to take place in 2014 and steady progress in the Transpacific Partnership (TTP) talks, are all causing market sentiment to improve. The results of these mix of macroeconomic factors can be seen reflected in the Nikkei outstanding performance for the past 12 months: almost 60% up so far. In this piece, I show briefly why I'm still bullish on Japan, even after the amazing rally we saw for the past months and what Japanese stocks I am watching nowadays.
Why I'm still bullish on Japan, in a nutshell
- The mainstream bearish reasons are long-run facts: Debt, deflation, low fertility rates, aging economy.... I've heard it all and I agree that some of these problems, which go beyond macroeconomics, are extremely difficult to solve. Yet, with the exception of deflation, most of these problems are long-run facts. Therefore, I don't expect them to become a negative short-run catalyst all of the sudden. These issues are not going to explode any time soon.
- Now that the upper-house elections are over, Abe's agenda will be reinforced. I expect Abe to deal with some well-known Japanese labor market rigidities, which could boost market sentiment. In the long run, I expect more welfare benefits for young families. Policies like making it easy for women to come back to work after pregnancy and an increase in the economic aid a family gets per child (currently 13,000 yen per kid) will at least stop fertility rates from going even lower.
- We already know how bad the Japanese market can get. Yet (most) Japanese companies remained profitable even in lean times: 2011 was a horrible year for Japan. And the 2008-2011 period was particularly tough for exporters, with the yen achieving record levels of appreciation. Yet, though times never last but though people do . The Japanese companies that survived the earthquake, record yen strength levels and fierce competition from America and China are crisis-proof entities worth watching closely.
- The jobless rate is falling (it fell 0.2 percentage point from the previous month to 3.9 percent, dropping below 4 percent for the first time in more than four years) and, even better, some early signs of long-awaited inflation can be seen ( consumer price inflation rate rose to 0.2% in June from -0.3% in May).
- Abenomics is not just about printing yen, buying assets and fiscal stimulus. Abenomics is also increasing nominal wages and taking other actions to increase consumption, which is sustainable in the long run.
- A bit of piggybacking: Roubini, excellent macroeconomist from NYU, predicts a 1.9% economic growth rate for this year. That being said, notice he remains somewhat bearish for 2014 and 2015.
There are more bullish signals which I will present in a next article. But for now, let me introduce 3 Japanese stocks that are totally worth analyzing:
Tokyo Electric Power Company: High risk, high return
This is a great pick. But there's some risk involved. Tokyo Electric Corporation (NASDAQOTH: TKECF) , also known as TEPCO, lost it all after the Tohoku 9.2 degrees earthquake & Fukushima nuclear crisis: a 90%+ loss in value. In an amazing article, Marc Peckner has compared TEPCO with General Public UtilitiesCorporation (GPU) after the meltdown of Three Mile Island's Unit 2 on 1979. GPU also lost it all, yet by 1987 its stock had recovered 50% of its pre-accident value, and it restarted paying dividends in 1988, reaching record energy production levels.
TEPCO could become a similar story. It's on its way back to profit zone, and if its request to restart operations in the Kashiwazaki-Kariwa plant is approved, TEPCO could see its cost base reduced substantially as it will rely less on expensive crude oil. This could bring positive EPS in less than 1 year. In theory, with Kashiwazaki operational, a possible restart of Fukushima Daini by 2017 and most payments to damaged households after the earthquake incurred, there's no fundamental reason impeding monopoly TEPCO, with its 44 million Japanese customers, from being profitable. Electricity is a must in the third largest economy of the world. Finally, keep in mind the Japanese government has a massive stake in TEPCO after injecting one trillion yen. If TEPCO goes back to profit zone and continues its improvements in balance sheet, the government could start selling its stake in the next 3 years, adding further demand and raising the price.
Toyota loves Abenomics
Toyota Motors (NYSE: TM) is one of the companies that most benefit from a weak yen. The Toyota New Global Architecture (TNGA) may add more benefits, as by developing multiple vehicles simultaneously the company could reduce its cost base significantly. Also, the fact that Toyota does not have to deal with high pension and health-care costs makes this stock a great complement to the Detroit Three. Also, a very small debt compared with the size of accumulated cash, makes Toyota a safe stock and interesting complement to owning TEPCO: cash and cash equivalents surpass ¥2.7 trillion (about 16% of the current market capitalization).
Panasonic: The Green Transformation
My final pick for today: once glorious Panasonic Corporation (NASDAQOTH: PCRFY) . Panasonic had a rough year and had to cut thousands of workers. At some point in November, its stock was worth only 376 yen, an 88% decrease from its 2000 price. But the weak yen and restructuring effect are now the main causes for Panasonic financial recovery and improvements in efficiency. Add to this the fact that Panasonic is heavily addressing the green consumer, a promising market. While there are still many challenges to long term consistent growth in sales, Panasonic is still a strong brand in Japan and if its green transformation succeeds, international sales could recover and this could be a wonderful come-back. Definitely worth-watching!