Japanese equities have hit record highs following a post-Liberation Day rally that has seen the TOPIX outpace a raft of major stock indices. However, the Japanese market continues to be narrow and momentum driven – a persistent trend since 2023 – with some areas left behind as investors maintain a laser-like focus on themes like AI, gaming and defence.
The automotive sector is a case in point.
Autos in Japan have faced a challenging few years amid mounting competition from China, the move towards electrification and fears around the potential for a stronger yen. Liberation Day and the threat of high tariffs put the sector under more strain and further weighed on valuations, which are now nearing historical lows.
As a result, despite a brief rally after the US-Japan trade deal was announced in July, autos have become the market’s standout laggards – the last ‘value’ sector in Japan that has failed to perform.
Today, however, we see parallels between autos and the financials sector in 2021, years before the Bank of Japan (BoJ) started to normalise monetary policy after a long period of negative interest rates.
Back then, some of the banks were trading at zero on an enterprise value basis amid very weak sentiment. Fast forward to 2025 and these banks have performed very well as the BoJ has increased interest rates; the autos, on the other hand, have fallen out of favour, reflecting the market’s dim view of their prospects given tariff and trade uncertainty. To a contrarian investor, this feels like an attractive opportunity.
Excess gloom
In some areas, sentiment around autos has become incredibly weak. Take a quality large-cap company like Honda. Today, the combined value of its motorcycle business (which makes double-digit margins) and its cash position exceeds Honda’s entire market capitalisation (based on applying a market price-to-earnings (P/E) ratio to the motorcycle business). That means investors are effectively getting its auto business for free.
Moreover, Honda’s decision to scale back plans to invest in electric vehicles (EVs) in Canada, due to the Trump administration’s dampening of the electrification theme in the US, will save it significant capital in the short term.
As a business that exports relatively few cars to the US directly from Japan, as much of its production base is in the US, Canada and Mexico, any progress on a tariff deal between those countries will be a positive.
Meanwhile, Nissan has embarked on significant reforms to restructure the business for the new world after a difficult period. Overproduction is being addressed and a focus on speed and efficiency within a slimmed-down business suggest, to us, that a turnaround can be successfully executed.
While Nissan’s valuation does not reflect progress so far, we believe it is only a matter of time before the market begins to see the fruits of reform.
There could also be better times ahead in markets that have proved challenging. Sales of internal combustion engine vehicles in China, traditionally a strong market for Japanese automakers, have fallen dramatically in recent years. But sales of Nissan’s new EV in China have been encouraging and may point to small shoots of recovery in an important market.
Further progress on auto tariffs and more clarity on the final US-Japan trade deal should, we believe, bring welcome relief to the sector.
Fallen growth darlings
Another area of interest is what we call ‘fallen growth darlings’ – blue-chip exporters that have historically been well regarded by the market but which now trade on much lower valuations after significant underperformance. This has upended historical style designations, with some traditional growth names now appearing on value screens.
While many of these companies are involved in robotics and factory automation – traditional areas of excellence for Japan – they have endured steep tariff-related share price declines that have left some trading at near 10-year valuation lows.
As quality stocks with strong balance sheets and significant market shares, in our view, many have been oversold even amid fears of potentially weaker Chinese demand and rising competition.
Some world-leading companies in Japan in chemicals and automation are now trading at levels that, in our view, do not reflect their strength or future prospects. One key name is trading at its lowest price-to-book ratio relative to the TOPIX since 2008, yet its share of the US industrial robotics market is 50%.
Finally, as ever in bull markets, economic defensives – such as telecoms, food, pharmaceutical and retail stocks – have languished. Many have been strong names historically. Retailer Seven and i Holdings has faced a challenging time since the collapse in July of the $46bn bid from Canadian convenience store operator Couche-Tarde, which would have been Japan’s biggest-ever foreign takeover.
But the business is growing, it has a strong brand (it owns the 7-Eleven store chain) and its restructuring plan appears well-placed to unlock shareholder value. Disappointment over the failed bid amid a general disinterest in defensives has further increased its attractiveness in terms of relative value.
Much of the focus on Japan in recent times has been on the return of inflation, monetary policy normalisation, the rise of activism and the corporate governance reforms. These will continue to be key themes going forward. But, in our view, there remain ample contrarian opportunities in a market that has tended to reward investors prepared to delve into the most unloved areas of corporate Japan.
Emily Badger is a portfolio manager at Man Group. The views expressed above should not be taken as investment advice.