Legendary investor Warren Buffet recently visited Japan and announced that he had increased his stake in five Japanese trading houses amid a stock market rally not seen since the 1990s. Jesmond Mizzi Financial Advisors chief investment officer Marc El-Lazidi discusses whether the sleeping giant is about to awaken.

Both Japan’s Topix and Nikkei-225 indices are trading at highs not seen in a very long time and have registered almost double the gains that the S&P500 or Stoxx 600 have. Are Japanese stocks finally back?

MEL: The resurgence of the Japanese stock market is undeniably impressive, particularly when we consider its historical backdrop, marked by the tumultuous Bull and Bust phase and the prolonged lost decade(s).

Warren Buffet’s visit to Japan serves as a resounding confirmation that this revival is not a fleeting phenomenon but rather a long-term trend. At 93 years old, Buffet has nothing left to prove; his focus now lies on the well-being of current and future generations of investors.

To address the question of whether Japan is a tactical or strategic opportunity, we need to take a closer look at the economic context. In the 1980s, Japan experienced an economic boom, characterised by an overheating economy, skyrocketing money supply and an influx of credit.

However, as is often the case with such bubbles, it eventually burst, prompting the Bank of Japan to swiftly implement interest rate hikes and make drastic changes to its monetary policy.

How has this impacted Japanese equities over the years?

MEL: Japanese equities have long been associated with sluggish growth, limited profitability and meagre returns, which has deterred many foreign investors.

Moreover, the country’s corporate culture has often been criticised for its lack of friendliness towards shareholders. Despite intermittent signs of market revival over the years, a sustained upturn has remained elusive.

However, the prevailing sentiment now is that this time things might truly be different. This optimism stems, in part, from recent changes in Japan’s corporate governance regulations, which hold the potential to significantly enhance shareholder value and offer compelling opportunities for value investors.

Buffet’s visit to Japan proved to be a game-changer, as he emphasised his intention to invest in the Japanese economy as a whole by acquiring stakes in five of the nation’s largest trading houses.

What do we mean by trading houses?

MEL: Japan has what are called Sogo Shosha, which roughly translates as general trading companies. These companies are involved in a diverse range of business sectors, particularly import and export activities. Acting as extensive conglomerates, they have highly diversified business lines that make their performance a reflection of the overall health of the economy.

This revival is not a fleeting phenomenon

During his visit to Japan,  Buffet made a significant announcement. Berkshire Hathaway increased its stake in Itochu Corp., Marubeni Corp., Mitsubishi Corp., Mitsui, and Sumitomo Corp to 7.4%, following an initial investment of 5% in August 2020.

Buffet himself described this decision as a result of the stocks trading at “ridiculous” prices. He further emphasised his long-term commitment to these investments, indicating his recognition of their substantial potential over the next 10 to 20 years.

What is the reason these companies had such a low valuation, despite their seemingly strong position?

MEL: The Japanese economy and its financial markets have their unique characteristics, setting them apart from countries like the US.

One notable distinction lies in the business culture, which exhibits a significant difference. The interconnections and independence among businesses, government entities, clients and suppliers are more pronounced in Japan.

What sets Japan apart, particularly in comparison to the US, is its lesser emphasis on shareholder centrism. This difference is reflected in the tendency of Japanese companies to retain substantial amounts of cash, which ultimately diminishes their return on equity and makes them less appealing to investors.

There’s no denying it’s a strong run, but how long will it need to persist for it to really be the start of a Japanese market revival?

MEL: There are compelling reasons to believe this time things might truly be different. The implementation of corporate reforms, coupled with the Warren Buffet effect, has garnered significant global attention.

Evidence of this can be seen in the highest point of difference between stocks bought and sold by foreign investors since 2013. This suggests that the market is in a favourable position. However, we have been in similar situations before without witnessing definitive signs of a lasting change.

The ultimate outcome will greatly depend on the fiscal and monetary policies that are put into effect, particularly with the resurgence of inflation in Japan.

Inflation is expected to drive more individuals to seek refuge in the stock market as a means to safeguard their savings, thereby potentially bolstering the situation. Nevertheless, for markets to sustain strength and longevity, economic growth is imperative. It’s worth noting that achieving this isn’t an easy feat, especially when considering Japan’s ageing population and the persistently stagnant wages. An increase in salaries would undoubtedly contribute to stimulating growth. When combined with improved governance and a renewed interest in Japanese stocks, it has the potential to set us on an exciting trajectory.

Only by integrating these factors can we ensure that the resurgence remains sustainable in the long run. Failure to do so might lead us into yet another trap. It’s important to acknowledge that external factors also play a crucial role as catalysts in this Japanese economic resurgence.

This interview is issued by Jesmond Mizzi Financial Advisors Limited and does not intend to give investment advice and the contents therein should not be construed as such. The company is licensed to conduct investment services by the MFSA, under the Investment Services Act. Investors should remember that past performance is no guide to future performance and that the value of investments may go down as well as up. For further information contact Jesmond Mizzi Financial Advisors Limited of 67, Level 3, South Street, Valletta, on tel: 2122 4410, or e-mail info@jesmondmizzi.com