Global Courant
International investors are likely to increase their exposure to Japanese equities or even consider including them in their portfolios for the first time this year and beyond.
The reason is that the world’s third-largest economy is experiencing inflation that hit a four-decade high in February and is still running high.
Sharp price increases are rarely desirable, but Japan is an exception after periods of deflation since the late 1980s and early 1990s.
Japan has struggled for decades with a persistent problem of low inflation and deflation for four main reasons.
First, it has an aging population and declining birth rate, which has led to a shrinking workforce and reduced consumer spending. With fewer people entering the labor market and spending less, there is lower demand for goods and services, resulting in stagnant prices.
Second, Japan has experienced prolonged periods of economic stagnation characterized by sluggish growth and weak consumer and business spending. This has limited the potential for inflationary pressures to build.
Third, the country has one of the highest debt ratios among developed countries. To manage this debt burden, the government has pursued accommodative monetary policies, including low interest rates and quantitative easing. While these policies were designed to stimulate economic growth, they have not translated into significant inflationary pressures.
And fourth, Japan faces structural challenges in its economy, such as overcapacity in certain industries, weak productivity growth and limited wage growth. These factors have contributed to a lack of upward pressure on prices.
Economic recovery
However, in more recent times, as economic recovery has continued amid supportive monetary and fiscal policies and an increase in tourism, inflation has risen sharply.
For this reason, cash is no longer king as rising prices erode the purchasing power of Japanese investors.
As such, they are increasingly looking for alternatives, and we expect Japanese equities to be the best way to maintain or even increase the fair value of their investments.
Stocks are often seen as a potential hedge against inflation. When prices rise, the value of a company’s sales and profits can rise, leading to higher share prices.
Should Japanese investors plunge into the Tokyo and Osaka stock exchanges, equity values will naturally rise, and this will attract the interest of international investors looking to further diversify their portfolios to seize opportunities and mitigate risk.
Japan experienced a prolonged period of economic stagnation in the 1990s and 2000s, also known as the Lost Decades. This era was characterized by low economic growth, deflation and a weak stock market. The negative perception of the Japanese economy during this period seriously discouraged international investors from overweighting Japanese equities.
In addition, Japan’s corporate governance practices and transparency standards have historically been considered relatively weak compared to other developed economies. This lack of transparency and shareholder-friendly practices made some potential foreign investors reluctant to invest in Japanese companies.
Moreover, equities in Japan have of course not consistently outperformed other global equity markets over the past few years.
But since values are likely to rise as investors shed cash and fixed-income investments because of rising inflation, this trend of overlooking Japanese stocks will be reversed.
Nigel Green is founder and CEO of deVere Group. Follow him on Twitter @nigeljgreen.
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