Many stockpickers will tell you they pay little attention to what’s going on in the wider economy when they are building their portfolios. They will emphasise that they look at businesses from the ground up, examine the fundamentals, and then make a call on the valuation. All of this is a perfectly correct way to invest, but I would argue that the best stockpickers are the ones who also keep a close eye on the macro environment, especially in these uncertain times. This is because it can have a big impact on the way the companies they hold do business.
Let’s think about this in the context of Japan, the market from which I select my stocks. Japan has been struggling with next to no growth and fighting deflation for more than 20 years, leading to huge monetary and fiscal stimulus and structural reforms, from the ‘three arrows’ of Abenomics to the central bank’s purchase of enormous swathes of the government bond market. But so far, despite these efforts, inflation is far below the 2 per cent target, GDP grow is sluggish, and the country is facing a demographic challenge as its population ages.
Then there is the impact of the strong yen. When the yen appreciates sharply, this is bad news for Japan’s corporate earnings, exports more broadly, and domestic inflation. This has been the situation for the last 12 months.
Japan has also been indirectly affected by the turmoil following Britain’s vote for an EU exit. Although it has limited exposure to the UK, the market volatility seen in the aftermath of the vote pushed many investors in to safe haven assets such as gold and the yen. As Britain negotiates its place outside the EU, turbulence in markets is set to continue, and this could trigger further currency appreciation. However, we expect to see year-on-year comparisons for the yen bottoming out in the first quarter of 2017, and this should help earnings improve.
What does all this mean for me as an investor? Although I am above all a bottom-up stockpicker, the movement of the yen has led me to manage my exposure to exporters carefully. Because these names have been underperforming, I have selectively increased positions in some to the cheaper names which I think are mispriced, such as Yamaha Motor. However, I would always want to see strong fundamentals as well, and to be confident in the prospects for the business over the next one to two years.
A theme I am running in the portfolio currently is internet services and dynamic growth in ecommerce. One of the stocks I am using to play this theme is Kakaku.com, a name I have held in the fund since I took it over last year. What I really like about the company is that it has a portfolio of different businesses. It started life as an online price comparison site but has been branching out in to other areas including online search for real estate, hotels and restaurants. It owns a strong brand called Tabelog.com, a restaurant review site similar to Yelp, which is seen as credible and highly regarded by Japanese consumers. Online restaurant reservations have been very low in Japan, but this is starting to change. Some of the best restaurants in the country are now featured on the site, and it is expanding rapidly. I expect Tabelog to be a key growth driver for Kakaku over the next two years. The return on equity of the parent company is 30-40 per cent, and it is a business which recycles cashflows and returns value to investors through share buybacks. As a shareholder-friendly company with excellent growth prospects, this looks to me like a compelling ecommerce idea.
Quite a few small- and mid-cap growth stocks with a domestic tilt have also been harshly sold off in the last few months, which gives me the chance to pick up good businesses on single-digit price-to-earnings multiples. Within the domestically-focused names, I remain conscious of the macro challenges they face, and so I look for businesses with strong brands and market positions which are searching for growth by expanding overseas.
While a rigorous bottom-up approach is required to capture the most attractive stock picking opportunities in Japan, it is important to remain fully aware of the broader economic environment in which the companies I am looking at are operating.
Nicholas Price is manager of the Fidelity Japanese Values investment trust. The views expressed above are his own and should not be taken as investment advice.