Abenomics is a vote-winner

Buy on the promise, sell on the news? That may be the initial temptation of those of us who have been happily playing the Japanese recovery story for the last few months, now that Mr Abe’s Liberal Democratic Party has won a resounding victory in the Upper House elections at the weekend. The result means that with a comfortable majority in both chambers, the flag-waving Prime Minister is well placed to push through his programme of economic reforms, aided by the expansionary monetary policies now being embraced by the Bank of Japan. Despite the size of his majority, some will worry that the impetus to complete the much-needed structural reforms – the so-called third arrow of Mr Abe’s strategy – will weaken now that the election is over. The LDP traditionally represents many of the powerful vested interests that have killed reform agendas so many times in the last 20 years; could they do so again?

It is possible, but my instinct is that answer will be no. The Japanese equity market retains its attractions. The key insight that the professional investors I talk to keep bringing back from Japan is that for the first time in living memory all the interested parties – the government, the central bank, companies and now the electorate – are all aligned in the same direction, prepared to give Abenomics its head. The programme is certainly not without its risks, and it  has important implications for investors in other countries around the globe, as Henry Maxey, the CEO of Ruffer LLP, points out in its latest investment review

The political and monetary regime change which followed the Japanese election in December last year, is the single most important change for global financial markets since Mario Draghi’s ‘whatever it takes’ speech in summer last year. It is significant not just for Japanese markets but also for global capital flows, ie the wiring together of the world’s capital markets. Investors, however, have been slow to appreciate its significance……..Standing back then, we can see the perverse impact of Japan’s entry into the global reflationary game. While a weak yen helps a Japanese domestic reflation, the initial global effect of its money printing has been disinflationary. It has also changed the nature of global capital flows. Emerging markets have been the biggest losers and the US and Japan the biggest winners of this change.

There have been, notoriously, several false dawns before in the Japanese equity market, most recently in 2005-07. Ruffer and others have, notwithstanding, been adding to their bullish positions on the back of the correction in the Tokyo market in May-June, on the argument that the reform programme is for real, and that if that proves to be the case, many domestic equities in Japan (though by no means all) will benefit. The market as a whole remains cheap in comparison to its global counterparts. The world has not shed itself of serious macro risks – think the Eurozone, China’s slowdown and the whole issue of the Federal Reserve’s policy adjustments – but absent a new crisis the Japanese recovery story looks to me to have a way to go yet.

Japan July 2013