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Why foreign investors are losing faith in Japanese stocks

Two things were surprising about Shinzo Abe’s September 2013 appearance at the New York Stock Exchange. The first was the spectacle of a Japanese prime minister playing the broker and urging investors to “buy my Abenomics”, referring to his signature revitalisation programme. The second was how many of them took the bait. 

In the years that followed, foreigners became big net buyers of Japanese stocks. That drove their holdings to an all-time peak of 28 per cent of shares, by number, in 2015. But nearly eight years into his premiership, Mr Abe’s salesmanship has faded.

Foreigners jettisoned a net Y1.85tn ($17bn) of stocks in the cash market in the year to March 31, according to Mizuho Securities. That leaves them owning around 24 per cent of shares, taking the proportion back to levels previously seen in 2012.

Not much seems capable of luring them back, says Mizuho strategist Masatoshi Kikuchi. The Nikkei has rallied strongly since its lows in March, up more than 35 per cent, and whenever that bull run has faltered, the Bank of Japan has swept in with massive purchases of exchange traded funds to support the market.

Nevertheless, foreigners dumped a net Y485bn of cash stocks in the last week of June, capping three weeks of heavy net outflows. US investors in particular, said Mr Kikuchi, “tend to regard the market as a collection of microcaps that relies too heavily on old-economy firms”.

The past couple of weeks have thrown up three good reasons why foreign investors might be growing disenchanted.

The first is the scorecard from corporate Japan’s season of annual shareholder meetings, which is clustered around the final week of June.

This year was a record for the number of shareholder proposals presented — a fact that might have been seen by some foreigners as an encouraging sign of activist momentum. But every single shareholder proposal tabled this year was heavily defeated.

The second, related disappointment centres on a recent flurry of listed Japanese railway companies buying shares in one another. For many foreign investors, one of the market’s greatest turn-offs is the persistence of so-called cross-shareholdings and the brazenness with which these arrangements are maintained.

In the post-Abenomics spree, foreigners bought the argument that a big unwinding of these holdings was in prospect. But in recent weeks, it has become clear that a big band of railway companies — among them Kyushu, West Japan, East Japan, Central Japan, Keikyu and Nagoya Railroad — have all been involved in a sharp increase in crossholdings.

The purpose of these stakes, say analysts, is to reinforce defences against potential moves by activist shareholders; Kyushu Railway, for one, has been a target of such campaigns. But it is the flimsy justification from the companies — that the holdings enhance business ties — that reflects most badly on the Japanese market. Even taking those arguments at face value, it makes the country’s business practices look collusive and out of step with other developed markets.

The third reason for disappointment, described as a “badge of shame” by CLSA strategist Nicholas Smith, is the fact that so many Japanese stocks are subsidiaries of other listed companies. Of the 2,163 companies in the benchmark Topix equity index, he notes, 12.7 per cent have a corporate shareholder that owns more than a third of the outstanding shares.

“The only other places where this is common are places the [Tokyo Stock Exchange] would doubtless not like to be compared with, such as Russia and Brazil,” said Mr Smith. “But in no major market is it as commonplace as in Japan.” 

One of the more attractive early narratives of Abenomics was that these “parent-child” listings were on the cusp of a great unwinding — either being bought in by the parent or sold off. Some of these deals have happened and often at quite significant premiums. But as one domestic Japanese fund manager argues, transactions have not moved at the pace expected “by the kind of foreign money that followed Mr Abe’s advice and bought his Abenomics”.

Investors heading for the exits might be picking the wrong moment, of course. Mergers and acquisitions advisers report that the financial pressures created by Covid-19, combined with the steady rise in independent directors on the boards of Japanese businesses, are producing a significant increase in discussions centred on the sale or purchase of listed subsidiaries.

By September, said one adviser, Japan could suddenly look like the busiest deal market in the world. That could mean bid premiums, or sale proceeds, for fund managers.

But to benefit in such a market, it is not enough for foreign investors to simply blanket buy Mr Abe’s Abenomics. They will have to play a role themselves: that of the informed and patient stockpicker.

leo.lewis@ft.com


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