“The risk is if Japan comes back to deflationary status,” Fuse told FSA in a recent interview.
Japan had been through 15 years of deflation until the country’s Prime Minister Shinzō Abe put in place an aggressive monetary policy, the expansion of fiscal spending and the deregulation of certain industries.
But the efforts so far have been unable to spark inflation, which is still very close 0%, Fuse said, quoting official data.
Deflation would lead to a reduction in capital expenditure by companies, as well as a fall-off in consumption, as people delay purchases in the expectation that prices will be even cheaper as time goes on.
Nevertheless, the firm’s Japan equities team expects that the probability of the country going back to deflation is less than 50%. In fact, “There is a 60% probability for inflation to increase further,” Fuse said.
Banking has been the industry most impacted by deflation. The price-to-book ratio of the sector is 0.6-0.7x. But if the inflation outlook further improves, P/B ratios can go up significantly, which he sees an an opportunity.
Another risk to Japan equities is a correction in US equities, which could result in a stronger yen. Since many of Japan’s corporates are exporters, the higher yen could slow earnings and dampen investor sentiment.
Personally invested
There are around 90 names in the portfolio with a 25% annual turnover rate and an active share of 72.2%.
Like the other funds managed by the firm, the Capital Group Japan Equity fund follows a system in which both portfolio managers and analysts make investment decisions for the fund, according to Fuse.
In addition, each manager and analyst invest their own personal money in the fund and their salaries are also impacted by the performance of the fund, Fuse noted.
The fund has three Tokyo-based portfolio managers: Seung Kwak, who is the lead portfolio manager and specialises in growth-driven, large-cap stocks, Akira Horiguchi, who focuses on growth-driven small-caps, and Andrew Johnsen, who is a value-driven manager.
Investment ideas also come from the team’s 13 analysts in Tokyo who develop a “research portfolio”, which is challenged by the three managers. The managers themselves also construct portfolios. Kwak looks at all portfolio ideas and decides on the allocation of the final one.
The system of multiple contributions to the final portfolio helps the product perform well regardless of market conditions, Fuse believes.
“The Japanese market is somewhat temperamental, going to value, growth, large cap or small cap. But we expect to generate excess returns in any given market cycle.”
The three year performance of the Capital Group Japan Equity Fund versus its benchmark
