Yes, But
Tokyo's Day
James Grant, 04.10.06
forbes.com
Sleepless, I flipped on the radio to catch the 3:25 a.m. business report. I was more than idly curious. Since the fall of 1998 I have helped to manage some investments in Japan. "Waves of selling forced the early closing of the Tokyo Stock Exchange," the announcer's voice intoned. This was last Jan. 18, two days after the police had raided Livedoor, the glittering Internet company managed by the flamboyant Takafumi Horie, public face of the new and regenerated Japan. It may not surprise you that I was still awake to watch the sunrise.
Is dawn breaking at last over the long-slumbering Japanese economy? "Yes" is my emphatic, admittedly unobjective, answer. Whether or not you have money invested there, Japan is calculated to intrigue. Here is a living laboratory in what the learned economists call "behavioral finance." In their propensity to sell low and buy high and to perceive risk where there is actually reward, Japanese investors strongly resemble their American counterparts. That is, they are only human.
In the aggregate they are phenomenally risk-averse, after 15 years of collapsing land prices, failing banks, soaring budget deficits, sagging share prices, falling interest rates and stagnating business activity. In this time of woe, cash was king. Bonds, too, were investment royalty. Though they yielded a pittance, the principal was safe, and the yen in which the debt was denominated was buying more with each passing year.
To this state of affairs--loosely styled deflation--the Bank of Japan addressed itself in 1999 by inaugurating a policy of 0% interest rates. In 2001 it instituted "quantitative easing," or monetary force-feeding, in which it stuffed the banking system with money. Few were willing to borrow any.
Now a solvent banking system is beginning to accommodate a rising demand for credit. In February, for the first time in eight years, bank lending showed positive growth. The campaign to stamp out deflation has borne fruit in the form of three consecutive monthly consumer-price-inflation readings above the zero mark. Under the printing-press standard, inflation is customarily the top monetary concern. Not in Japan. It was the lack of inflation that's had the central bank on the defensive.
But that peculiar phase of Japan's monetary history ended Mar. 8, when the BoJ announced the suspension of force-feeding, although not--for the time being--of 0% interest rates. A pair of economists from Bear Stearns, David Malpass and Sandy Batten, observe that the new policy remains accommodative. "[T]he Japanese," they write, "by leaving rates at 0% while inflation is climbing, are allowing their monetary policy to loosen further."
Which spells bad news for Japanese bondholders but good news for Japanese stockholders. With the Nikkei 225 index quoted at 43 times trailing earnings, the Tokyo market is not precisely cheap on an earnings basis. And gone are the days when hundreds of Japanese companies were valued at less than their net current assets.
But plenty of Japanese companies continue to hoard cash, as plenty of American companies would if they had been through a decade and a half of rolling recession. These asset-rich businesses are ripe for restructuring. Small wonder that merger-and-acquisition activity is strong (2,713 transactions last year, the most on record) or that Western private-equity investors are circling Tokyo in expectation of a new wave of dealmaking. "Japanese capitalism used to be static," the general manager in the business development division at Bank of Tokyo-Mitsubishi (other-otc: MSBHF.PK - news - people ) was quoted as saying at year-end. "Now we are learning about dynamic capitalism. We will see more spinoffs and restructurings."
That Jan. 18 selling squall caught out many a Japanese day trader, the non-risk-averse portion of the population. And a prospective rise in the cost of Japan's margin debt may send some of them back to the safety of money in the bank, or under the mattress.
Still, I believe a huge reallocation of Japanese investment capital is only just beginning. Bonds with flyspeck yields--the sure things during the long slump--will prove exactly the wrong things to own in the continuing expansion.
Late last year the Nikkei Weekly noted that life insurance investment committees continue to stay away from the stock market. "Young fund managers know only a bearish market," one Japanese asset manager told the paper.
If, as I expect, these fund managers will come to know a bullish market, a couple of New York-listed exchange-traded funds offer a convenient way for a non-Japanese investor to participate: iShares MSCI Japan (14, EWJ) and iShares S&P/Topix 150 (120, ITF).
James Grant is the editor of Grant's Interest Rate Observer. Visit his homepage at www.forbes.com/grant. |
