Japanese equities are primed to close the gap with global peers in 2022, analysts and strategists say, with the country’s cheap valuations, low inflation and high vaccination rates set to make up for a disappointing 2021.
Goldman Sachs Group Inc. and Morgan Stanley have 12-month targets of 2,250 for the benchmark Topix index, implying a gain of 12% from Thursday’s close, while UBS SuMi Trust Wealth Management sees it hitting that level by June. In a boon for the country’s many exporters, the yen is seen worsening its drop against the dollar after the Federal Reserve’s abrupt policy pivot this week.
The bullish predictions come after Japan fell behind its developed peers this year, with lengthy COVID-19 states of emergency sapping spending and growth.
While the Topix’s 12% gain makes it one of 2021’s better performers in Asia Pacific, it has trailed the MSCI World Index by about 6 percentage points. A ratio of Japan and U.S. benchmarks hit a fresh all-time high last month, spurring bets of a catch-up in the Asian nation’s shares.
“Cheap valuations and foreigners’ low exposure will all work to the benefit of Japanese stocks,” Goldman strategist Kazunori Tatebe told reporters at a virtual media briefing on Dec. 13. As reopening picks up pace, Tatebe sees a “powerful bout of inflow” from foreign funds who he estimates have sold up to ¥7 trillion ($61.3 billion) of Japan stocks since the pandemic began.
Japan has seen COVID-19 infections and deaths fall to near-record lows despite the global spread of the omicron variant. That, along with the highest inoculation rate among the Group of Seven leading industrial nations, is boosting expectations for economic reopening.
While overseas interest in local stocks has been fading for years amid frustration over the pace of corporate reforms to boost margins and shareholder returns, market watchers say investors are likely to give Japan another look next year in search of cheaper developed markets.
With the Topix trading at about 14 times estimated earnings versus the S&P 500’s 22 times, Japan’s price-to-earnings ratio is not only “significantly cheaper” than the United States, but also lower than its own 15-year average of about 16 times, said Tai Hui, Asia chief market strategist at JPMorgan Asset Management in Hong Kong.
“This provides more margin of error in case there are some bumps on the road to recovery,” he said.
The Topix is seen advancing almost 17% over the next 12 months, according to estimates from sell-side analysts, compiled by Bloomberg. That’s versus an upside of 10% seen for the S&P 500. Japan’s stock benchmark has trailed its U.S. peer by about 14 percentage points this year.
Also boosting the optimism is a recovery in corporate earnings that many say isn’t yet priced in.
“Over the past three months, Japan has witnessed the highest earnings revision globally, led by exporters,” analysts at Jefferies Financial Group Inc. including Shrikant Kale wrote in a recent note. “As the reopening gains momentum, both the engines of growth — exporters and domestics — will fire the next leg of earnings acceleration.”
Another factor for the bull case is Japan’s exceptionally low inflation. Consumer prices excluding fresh food increased just 0.1% in October from a year earlier, a far cry from the U.S. where prices are rising at the fastest pace in nearly 40 years.
As the Fed speeds up tapering to combat inflation, the Bank of Japan is likely to be “exceedingly patient,” Jonathan Garner, a strategist at Morgan Stanley, wrote in a note last month. Topix returns “have not come close to matching the exceptional Japanese earnings recovery,” he added.
Further, spending from Prime Minister Fumio Kishida’s ¥56 trillion fiscal stimulus is likely to start filtering into the economy in 2022, others say.
Risks still remain, with a delayed reopening far from the only cap on share-price gains. The stock market is often a victim of China-driven sell-offs, while uncertainty surrounding the Kishida administration’s policies have led to market jitters. The specter of omicron also looms, though community transmission hasn’t yet been found in the country.
Goldman’s Tatebe also remains skeptical over the possibility of sustained foreign stock-buying in the absence of a broader narrative.
“What foreigners want are policies that address the issue of shrinking population, low growth and low productivity,” he said. “But so far, Kishida hasn’t delivered on these — or rather, he hasn’t rekindled any expectations.”
Optimists like Toru Ibayashi, head of Japanese equities research at UBS SuMi Trust, suggest investing in cyclicals that will benefit the most from a global economic recovery.
“Japan stocks are set for a powerful rebound” next year, Ibayashi said.
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