Max Godwin, Eastspring Investments
The Japanese equity market has performed nearly in line with the global market over the last three years. Cumulative returns were 31.03% for the MSCI Japan Index and 32.27% for the MSCI AC World Index, according to FE data.
However, the market is cheaper on a price-to-book basis. The MSCI Japan has a price-to-book ratio of 1.4x compared to 2.3x for the MSCI ACWI, according to an MSCI report.
“Japan was previously an expensive market with no growth. Now, it’s a cheaper market with growth,” Godwin told FSA.
Drilling down further, it has been Japan’s small- and mid-caps that have outperformed large caps over the last three years, according to FE data.
Investors may be most familiar with Japan’s large cap stocks, of which there are only a few hundred, Godwin said. However, there are 2,000 liquid and investible small- and mid-caps.
Godwin, who manages the Japan Smaller Companies Fund, takes a value approach to investing. He likes unpopular stocks or those that will likely get sold if they go below what the market perceives as their intrinsic fair value.
“The market tends to fixate on the short-term, especially with earnings momentum or the lack of it. And because of that, you tend to get very cheap stocks,” he explained.
Additionally, it’s possible to find ignored or under-researched small caps that are a good fit for his value investing strategy. “It’s a bit of a cliché, but since there are so many listed companies in the small- and mid-cap space, a lot of them are not covered by the brokerage firms.”
Sector risk?
The fund screens the universe of 2,000 small- and mid-caps using valuation metrics and ends up with 100 names, which are further filtered down to 40-50 positions. The average holding period is three-to-five years, he said.
He works with other four other portfolio managers in Singapore who are on the Japan equity team. The team is responsible for four strategies, including Godwin’s fund, and have weekly meetings to discuss the structure of the strategies, he said.
In his fund, three sectors, industrial (26.7%), consumer products (25.5%) and financial (24.4%) make up roughly 75% of the fund, according to FE data. However, Godwin said simple risk that results from over-weighted sectors can be misleading. He believes sector classification may not be the best indicator of a company’s underlying business.
“The companies may be in the same sector, but when you look at the actual businesses, they tend to have different client bases or products.”
Instead, when looking at risk he makes use of a correlation matrix as a means to derive a diversification matrix. It takes each stock on an X- and Y-axis, and compares their correlation on a stock price basis.
“We try to avoid clusters where there are a lot of companies that are clearly correlated on a stock price basis,” he said.
Godwin, who is based in Singapore, believes an investor misconception is that Japan-focused funds must have a portfolio manager based in the country.
“For this particular long-term investment style, you don’t have to be based in Tokyo. If, in contrast, you are a hedge fund and are always looking for a short-term catalyst, you would then want to visit as many companies as you can, every day, every week, every month,” he said.
Nevertheless, Godwin, who is fluent in Japanese, said that he visits companies in Japan at least once a quarter and talks to sell side analysts that are based in Japan. “It is a global industry, there is no need to be actually be there 24/7,” he said.
The three-year cumulative performance of the Japan Smaller Companies Fund versus the sector and benchmark index
