Narrator (Title): Investing in Japan Expert Perspectives
Narrator (Common narration for video and audio): Foreign investment in Japan has continued to increase, and as of the end of 2022, totaled 46.2 trillion yen. In this interview series, we unravel the reasons behind Japan's current allure as an investment destination, exploring the insights of experts from around the world.
Interviewer: And today, we're joined by Ms. Fabiana Fedeli, Chief Investment Officer - Equities, Multi-Asset & Sustainability at M&G Investments.
Interviewer: She also brings a track record as an equity analyst for Asian stocks, including Japanese stocks. Now, today, she will talk about investment trends and the business landscape in Japan. So thank you for joining today.
Ms. Fabiana: Thank you for having me.
Interviewer: So, Ms. Fedeli, to start off, you used to cover Japanese stocks. Do you think that stocks would go up this high back then?
Ms. Fabiana: Well, that clearly was the hope. And personally, probably because you know, I've spent a considerable amount of my life in Japan, I'm very happy to see that this is happening. Japan has incredible potential and it's great to see it realized. I also believe there's more to come.
Interviewer: Right. So, you mentioned about the potential and Japanese stocks are gaining momentum and there's a lot of factors to it. What do you think is the strength of the current Japanese market, especially when comparing it to other markets?
Ms. Fabiana: Well, it's as we have said many times, we really believe that Japanese equities offer a compelling long term investment opportunity. When you look at them in a global context, the structural earnings growth principally derives from companies working hard on improving operating leverage and capital allocation is a strong driver of market returns. When you look at the dividend and buyback growth, it's not unrealistic to expect a Japanese equity asset class to deliver possibly mid-teens total compound return in the decade ahead, even without an uplift in valuation.
Ms. Fabiana: And when you compare this to the underlying risk of ownership, which we see as relatively low, given the stable legal and business environment, we believe that this is a very attractive investment opportunity.
Interviewer: So you mentioned about the business environment in Japan. You know, when it comes to financial policies, culture, these are all very different compared to Europe and the US. What do you think would appeal to investors from a business landscape aspect?
Ms. Fabiana: Well, there are a couple of things that make, if I understand your question correctly, there are a couple of things that make Japan attractive. The first one is the change that we have seen in the corporate landscape, particularly over the last ten years. And the second one is the quality and intellectual property of companies in Japan.
Ms. Fabiana: So from a business environment standpoint, over the past ten years, we have seen significant changes, most of which were driven by domestic sources, including the Japanese government and domestic regulators. The institutional framework within which companies are making decisions now and governing themselves has completely changed. We've seen the companies act being overhauled.
Ms. Fabiana: We've seen new proxy voting guidelines, new M&A rules and various tax code revisions that were implemented. For me, actually, the establishment of the Stewardship Code in February 2014 was a really important moment, and that was fully followed by the Corporate Governance Code, which took effect in 2015 and was subsequently revised and improved. And that was the code that established guidelines for board compositions, including female participation.
Ms. Fabiana: And the other important moment, in my opinion, was when in March of 2023, the Tokyo Stock Exchange sent a guideline to more than 3000 of its largest companies, and it was seeking corporate management's disclosure as to how it planned to raise their capital return (as measured by return on equity and return on invested capital) sustainably above the weighted average cost of capital, with a strong emphasis on companies trading below book value to make such disclosures.
Ms. Fabiana: And I believe this is what we're seeing right now with the structural improvements in corporate Japan. So that's on the governance side.
Ms. Fabiana: But you asked me, so what makes Japan attractive? And I believe also the type of companies that we have in Japan are extremely attractive. You know, at the moment, the attention is gravitating around with BOJ's thinking in terms of monetary policy. But the truth is that there is more to Japan than that. There are many examples of where Japanese companies lead the world with technology and intellectual property.
Ms. Fabiana: Japan has some of the world leading IP (Intellectual Property) in the supply chain, for example, of semiconductors, including critical materials, manufacturing equipment. And just think also about industrial and high-tech ceramics, which is another area where Japan dominates or autos, which is another obvious area of dominance. Also, from a technical leadership standpoint. So, there is a lot more to Japan. It's not only corporate reform, but it's corporate reform in a country that has a very strong intellectual property overlay.
Interviewer: Okay. So, I want to switch the topic to sectors. Which sectors in Japan are you betting on? What sectors are currently experiencing the best investment trends in Japan?
Ms. Fabiana: So when we look at investments, we look at thematic, we look we look at areas where we believe capital is going to continue to flow in independently from what happens with the macroeconomic backdrop. And two of these areas that we see as absolutely crucial for the future of the world are energy transition and innovation, in particular artificial intelligence (AI).
Ms. Fabiana: And when you look at Japan, power grids are dominated by Japanese companies globally. And this makes Japan critical to global energy transition. And yet perhaps investors, global investors, are really overlooking the Japanese market on this. So, if you look at the large cap benchmark in Japan, approximately one third of it, excluding financials, has energy transition as a key underlying business theme.
Ms. Fabiana: And actually, as it happens in 2023, these stocks have outperformed the broader market probably by give or take, 600 basis points. So, this is an area where Japan is leading. And even beyond power grids, Japan has leading intellectual property in several areas that are going to be critical to that transition. So, think about the lightweighting of various products, which has an incredible amount of participation from Japanese materials science companies.
Ms. Fabiana: Think about Japanese heavy industrial companies that are involved in different aspects of the hydrogen economy. And then another very exciting area is in the startup innovation space. Japan occupies essential positions in nuclear fusion technologies. So that is one area that we really like. Another area is linked to AI. And when it comes to AI we think that Japanese companies are likely to become key enablers, but also key beneficiaries on the enablement side.
Ms. Fabiana: I can give you one example, and that is Japan's leading technology in photonics. So, as we use more AI, computer-related energy consumption is going to skyrocket. And we're already seeing the impact of this. And the most promising solution to this is to shift away from copper and into light, which is photonics. And this is going to allow for higher speed and higher capacity of a network, but also have the potential to bring down the cost dramatically.
Ms. Fabiana: I've seen expectations of bringing costs down by 99% over the next ten years. And the application of this technology to networks is currently spearheaded by one of Japan's largest corporates. And then on the beneficiary side of AI, Japanese companies have a long established history of record and data keeping. And this is actually not only one sector, but it is across sectors.
Ms. Fabiana: And once applied, large language models can convert this proprietary data into competitive advantages for these companies. And we see companies here in very diverse sectors, from manufacturing to chemical materials, and they're really all embracing the ability to apply AI to their data sets that they have so carefully collected over the years. What we really like is that Japanese companies are really taking AI very seriously at the moment and investing accordingly.
Interviewer: So, you know, foreign investors dive into these sectors that you mentioned, what do they need to, you know, keep mind on to dig in to, you know, potentials?
Ms. Fabiana: Well, first and foremost, they have to be willing to establish that respectful dialog with companies. Because many of the initiatives that corporates take in Japan are often not as publicly touted as they might be in in other countries.
Ms. Fabiana: And then obviously, you also need to have a deep understanding of the country and the corporate environment. And so having investors who have invested for a long time in Japan, and having investors who understand the local culture, that becomes important.
Interviewer: Right. So obviously, you are well aware of the local culture.
Ms. Fabiana: Those foreign investors have to take into account the Japanese culture. And I've learned this through my years studying and working in Japan. You know, nothing happens all of a sudden in Japan. Every step is carefully thought of.
Interviewer: Right. So, about your company. In 2023, M&G Investments appointed its Japan head. Does this mean that M&G will continue to push investments and expand in Japan?
Ms. Fabiana: Well, indeed. M&G is increasing its Japan operations and is doing so both on the investment side, where we have been adding to the team responsible for investing in Japanese equities. We've also added to our engagement expertise, and we are also adding in distribution. You know, at the moment we're receiving increasing inquiries from Japanese investors, and we already have several Japanese clients invested into our strategies.
Interviewer: Right. So my last question is, is 2024 still a good year for investment in Japan? What are the factors? If so, what are the factors that will attract foreign investors to the Japanese market this year?
Ms. Fabiana: I'm very much hopeful that 2024 will be a good year for Japan. Obviously, as in every case, when a market does very well, you can expect some periods of consolidation on the shorter term and then possibly, you know, other periods of rise. But to me, the structural path that Japan is on is undeniable. We still see those mid-teens returns that we believe are sustainable over the long term.
Interviewer: Okay,well thank you very much for joining us.
Ms. Fabiana: Thank you. It was a pleasure.
Interviewer: Thank you.
Narrator(Closing): Japan's corporate sector has undergone structural improvements, enhancing profitability. Furthermore, as a global innovation leader, Japan boasts a robust intellectual property framework. These key factors foster significant growth in key sectors like energy and AI, making it an attractive investment opportunity.
Narrator(Common narration for audio): Stay tuned to the "Expert Perspectives" series for invaluable insights from global experts.
Narrator(Title): Investing in Japan Expert Perspectives
