By Bill Witherell, Ph.D.
Over the past 12 months, as of July 6th, the Japanese equity market outperformed. The TOPIX index increased 31.1% and the NKY 225 30.5%. These figures compare with increases of 14.8% for the S&P 500, 19.35% for the STOXX Europe 600, and in Asia, 22.4% for the MSCI AC Asia Pacific ex Japan Index. Similar outperformance was registered over the past three months: TOPIX, 7.9% and NKY 225, 6.8%, versus S&P 500, 2.2%; STOXX 600, -0.1%; and MSCI AC AsiaPacific ex Japan, 4.6%. Over the past month, equity markets around the globe eased, and the Japan market was no exception. iShares MSCI Japan ETF (NYSEARCA:EWJ), by far the largest Japan ETF listed in the US, lost 3.25% between June 2nd and July 10th. Since then it has recovered by 1.5%. We did not consider this slight market pullback as a reason to reduce exposure to the Japanese market.
Japanese equities joined in the recent global market softness induced by rising interest rates, concerns that central banks will be reducing their quantitative easing, and perceived increasing geopolitical risk, including the North Korea threat and uncertainty about the future course of US actions. Japanese equities also suffered as a result of the substantial defeat of Prime Minister Abe’s Liberal Democratic Party (LDP) in the Tokyo Metropolitan Assembly election, although that loss appears to have been just of local importance, not significantly affecting the strength of the LDP nationally. Also, Abe has been caught up in several scandals that have affected his popularity. Nevertheless, concerns about Abe’s ability to remain in power and carry forward his economic policies appear unwarranted to us. The LDP’s strong position nationally is not under any credible threat, and there is no serious contender to Abe’s leadership within the LDP. Abe does need to rebuild public trust. The best course would be to redouble his efforts to further economic prosperity.
Some investors have been concerned that the Bank of Japan (BOJ) may intend to begin tightening its very-easy monetary policy of quantitative easing soon, while keeping the 10-year Japanese government bond (JGB) rate “around 0.00%,” which appears to mean no higher than 0.10%. Last Friday, July 8th, after the rate moved slightly above 0.10%, the BOJ clearly demonstrated that it is not yielding in its battle to control yields on the benchmark 10-year JGB. It offered to buy an unlimited amount of JGBs and ended up by increasing its 5-year to 10-year…