Japan is far and away the most attractive market for income investors with a global remit, according to Neptune’s George Boyd-Bowman, who is significantly overweight the region in his Global Income fund. 
The country's increasing popularity with growth investors is well-known, but Boyd-Bowman believes investors looking for dividends also have cause for excitement.
The manager (pictured) says Japan’s Corporate Governance Code, which was introduced last month, will see more and more Japanese companies prioritise shareholder interests and pay sustainable dividends. Historically Japan has a relatively weak dividend culture compared to the likes of the UK and continental Europe, but Boyd-Bowman thinks the gap will close considerably.
This, combined with cheap valuations and ongoing reforms, makes for a very strong investment case, he says.
“It’s something that I think people still haven’t woken up to yet, certainly from a dividend angle. There are plenty of people who have been looking at Japan for years and years, they’ve been burnt for years and years, they’ve possibly heard that the Japanese market is changing but this time it really is different,” he said.
“The key change is in corporate governance reform – that’s what’s really changing things in Japan. It’s worth remembering one of the overriding characteristics of Japanese culture and society is that it’s conformist, there’s a consensual approach.”
“Once the industry leaders start doing something, once there’s a change in mind-set at the top, t hen this filters down throughout the chain to the large companies and then down to the medium companies and so on.”
‘Growth policies to spur private investment’, the third arrow of Japanese prime minister Shinzo Abe’s Abenomics programme, involves corporate governance standards that encourage companies to focus on shareholders by paying out portions of cash from their balance sheets.
Boyd-Bowman adds that, while many investors are focusing on the first two arrows of quantitative easing and fiscal stimulus, corporate governance is also set to boost opportunities for global income investors significantly.
“It’s broadly agreed that those first two arrows have been very effective. Exchange rates have depreciated a lot and corporate earnings are up significantly. But the one arrow that the jury is still out on is the third arrow and that’s the structural reform arrow,” he explained.
“Certainly in my view, the corporate governance reform that’s ongoing and started midway through last year has been notched up a level this year. It’s really the key structural reform – the most powerful part of the third arrow.”
“And when we talk about corporate governance reform I’m referring to occurrences such as last year when they instigated the Nikkei 400 index. It’s the index where there’s a specific return on equity threshold to actually get into that index.”
Performance of indices over 1yr
Source: FE Analytics
“This means that companies are now considering these big cash piles, they’re considering the capital inefficiency of their balance sheets and they’re seeking to do something about it by changing the structure of their balance sheet.”
According to research by Neptune, Japanese companies are currently holding an average of 53 per cent of their total assets in cash, which amounts to the equivalent of $14trn across the country.
This means that companies will need to re-address their balance sheets, following the Bank of Japan’s inflation target of 2 per cent, which will devalue current cash holdings and cause cash holders to lose money.
As a result, Boyd-Bowman is certain that the domestic demand for income will only increase in Japan, creating an asset allocation shift into equities.
“When you think about it, [holding cash] has been totally sensible in a deflationary environment like Japan has been for the last 20 years. If things are cheaper tomorrow and they’re cheaper next year, the real value of your cash is going up. It makes no sense to buy assets that are only going to depreciate in value,” the manager pointed out.
“However, the opposite is true in an inflationary environment. It’s totally mad, bad and dangerous to keep cash in the bank earning two basis points.”
“So, we expect a big switch from deposits into equities and we expect it more into equities than bonds because yields on bonds are extremely low in Japan, whereas the stock market is yielding almost 2 per cent with their dividend yield. That’s only going to rise because we think there’s substantial dividend growth on the horizon.”
“It’s not something we expect to happen overnight, but this is a very long-term driver for Japanese equities.”
Currently, Boyd-Bowman’s Neptune Global Income fund holds its third-largest weighting in Japanese equities at 22.42 per cent. Its top two largest weightings are North America and Europe ex UK at 37.96 and 23.93 per cent respectively.
However, five of the £2.4m investment vehicle’s top 10 holdings are Japanese companies, including home builder Sekisui House, banking holding company Sumitomo Mitsui Financial Group, Japan Tobacco, auto parts manufacturer Bridgestone Corporation and machinery manufacturer Amada Co.
A Japanese company that the manager is particularly excited about at the moment is Fanuc, a company that provides automation products and is one of the world’s largest industrials robot manufacturers.
He says that corporate governance has already had a drastic impact on the company, causing it to double its dividend earlier this year and return 60 per cent of its net profit to shareholders.
“They’re a fascinating company – I’ve been to see their plant in Japan. It’s historically a very secretive company and its plant is right up in the mountains near Mount Fuji and about two hours from Tokyo,” Boyd-Bowman said.
“The reason why they’re there is because it was originally a spin-out from one of the universities in Tokyo 50, 60 years ago. They used to be in Tokyo but they were so concerned people would steal their intellectual property that they decided they wanted to be as far away as possible from everyone.”
“And so they’re stuck up on the mountains and all the employees live on campus in dormitories, it’s a very bizarre place. But it also happens to be the best robotics company in the world – Apple are one of their main customers: they make a huge amount of the robots that actually put the iPhone together.”
“The corporate governance reforms have hit Fanuc very hard because previously they didn’t even have an investor relations department. I actually think it’s important to step back and think about what this means – it’s one of the world’s leading companies, it’s one of the biggest companies in Japan and yet, until two months ago, they never even had an investor relations department. They didn’t want to speak to shareholders and they made it as difficult as possible. They have now said, ‘okay, fine. We recognise the reforms going on in Japan. We need to become more shareholder-friendly. We’re actually going to have an investor relations department’.”
“They also recognised that they were holding too much cash on their balance sheet and they doubled their dividend overnight. It’s having a big effect and there are literally hundreds of examples of companies like this.”
However, with such a large number of companies becoming so much more shareholder-friendly, could there be a risk that this theme has already played out?
In an article last month, FE Trustnet explored the prospect of consensus trading, following the increasing popularity of European and Japanese markets.
Despite this, Boyd-Bowman believes there is plenty of room left to cash in on the lucrative market.
“We think this has an extremely long way to go. The reason we say that is these reforms have a long way to go themselves – they’re only just starting,” he argued.
“We can give examples of companies that are changing but I think if you looked in a global ranking of corporate governance standards they’ve got a long way to go. They still only have a couple of independent board members. There’s still far too much seniority-based pay rather than performance-based pay in Japan.”
“So there is an awful lot of reform still to go, pay-out ratios are still very low in a global context, we’re still only at around 30 per cent on a global basis for pay-out ratios – that’s significantly below Europe or the US or the UK.”
Launched at the end of 2012, Neptune Global Income has achieved top-decile total returns over three months, six months and one year. Within the last 12 months, it has returned 9.96 per cent, almost doubling the performance of its peer average in the IA Global Equity Income sector.
Performance of fund vs sector and benchmark over 1yr
Source: FE Analytics
Neptune Global Income has a clean OCF of 1.11 per cent and yields 3.27 per cent.
