Prime Minister Shinzo Abe's gamble to call a snap election paid off handsomely. The lack of any shred of a sensible opposition and concern over a hostile North Korea led to a landslide victory.
It makes Abe the strongest post-war leader in Japan, and likely the longest-lasting, too, in his second stint in power. Investors should note that his third victory at the polls gives him a powerful mandate to continue his Abenomics push to reform Japan's economy.
Investors don't own enough Japanese shares. They were woefully underexposed prior to Abe's election in 2012, when Japanese shares broke rapidly higher. Global fund managers still have an average of just 6.3% of their global equity portfolio allocated to Japanese equities. That compares with Japanese stocks accounting for 8% of the MSCI World All Countries Index, and a whopping 23% of MSCI EAFE -- the developed economies minus the United States.
One way to increase exposure to Japan's benefits from Abenomics is to focus on companies that will be lifted by that capex spending. Earlier this year, I highlighted companies such as communications-infrastructure provider Furukawa Electric (FUWAY) -- its shares now up 130% in the last 12 months -- and general contractors Kajima (KAJMY) , up 80%.
They're the top performers in a basket of 36 stocks identified by Société Générale that sell or make capital goods. All in the basket are members of the Topix 500 index (think S&P 500 index of large- and mid-caps) of the largest Tokyo listings, have a market capitalization of at least ¥200 billion ($1.8 billion), and domestic revenue that accounts for more than half of sales, to make sure they are genuine Japan plays.
Japanese businesses are truly confident that the economy is finally on firm footing and moving forward, however slowly. That is encouraging top executives to spend money on capex. That didn't make any sense at all when facing a shrinking economy where deflation meant prices for parts or whole factories only kept getting cheaper.
Bargain hunters may want to target the underperformers among that highly rated basket of capex stocks. SocGen ran the numbers as of Oct. 26 -- Japan is going through earnings season now, and some of the stocks have moved dramatically in the past few days.
Chief among the underperformers is Keihan Holdings, T:9045. The rail-and-bus company is the only one of the companies that was staring at a 12-month loss, down 1.7% over the course of the last year as of the start of the week. The company runs the trains serving Japan's second city, Osaka, as well as nearby Kyoto, and therefore benefits from the increase in both domestic tourism as Japan's salarymen age and retire, and international visitors. It has also taken to developing real estate for malls and more around its operations. It erased its losses with a 2.1% share-price boost from its half-yearly earnings on Monday, which showed a 1.8% gain in revenues and a 4.0% advance in net profit.
Likewise, Seibu Holdings T:9024 runs trains, buses and taxis in and around Tokyo and Saitama, and has struggled to make any headway. It, too, has tourism-focused assets in the form of its Prince Hotels brand. It has only been listed since 2014, formed out of a massive scandal in which it transpired the head of the company had been making up the numbers for more than 40 years. It's been weathering a sell-down of what was once a 35% stake that hedge fund Cerberus Capital Management took in helping to bail the company out. Despite Cerberus selling all its shares by August, the stock has clawed out a 9.8% gain in the last 12 months, the second-poorest among this basket -- which attests to their strength.
Liquefied natural and petroleum gas company Iwatani T:8088 supplies both residential households and industry. It's been hit hard by the slump in natural-gas prices that started in 2014. But it has other strings to its bow, making machinery for industries from pharmaceuticals to food, as well as farming equipment. The company has one of the most entrenched managements in operation in Japan, according to Jefferies, which is saying something. It's interesting to watch as a new energy play, though -- together with Tokyo Gas (TKGSY) and most of Japan's big car companies, it's investing in a joint venture to supply hydrogen across Japan to vehicles powered by the clean-fuel gas.
Mitsubishi (MSBHY) is the biggest of the soga shosha trading companies that are so powerful in Japan, with an even broader portfolio, and not to be confused with the car company that adds "Motors" to the former mothership's name. It is recovering from losses in the 2015/16 tax year, but reclaimed its spot as the most-profitable trading company at the end of the 2016/17 fiscal year in March. Its shares are up 20.4% in 12 months, and its earnings will be worth watching when they come out next Monday.
The other underperformers all have gains between 20% and 30% in the last year.
Toilet-and-tubs maker TOTO (TOTDY) was next in ascending order of performance when SocGen pulled together its report. But its shares have skyrocketed 36% since late September, a move culminated by Monday's reporting of half-year profits that were up 14.9% on the back of a sales advance of 3.8%. The company is truly a domestic play in Japan -- it makes all pieces bathroom, as well as furniture for your kitchen.
Construction contractor and property developer Penta-Ocean Construction T:1893 has not enjoyed the heady returns of competitors such as Kajima, Toda T:1860 (up 63.1% in a year) and Taisei (TISCY) (up 59.7%). But investors can reasonably expect its performance to revert to mean. The company gets a hefty dose of its business from civil contracts, likely to become more prolific following Abe's victory. And it's a highly dependable revenue stream, the company at the start of last week upgrading its net-profit forecast for earnings due on Nov. 10 by 42% off a small base and slightly lower revenues.
Construction-machinery maker Tadano (TDNOF) may merit its underperformance -- it saw a 14.4% decline in net profit when it reported on Monday, off sales that were down 8.8%. Investors were expecting the worst and bid the stock up, though, leaping 21.5%, since the declines in profit moved the right way. They were half the 35.0% drop experienced the same time in the 2016/17 tax year.
Glory (GLYYY) , which makes money-sorting machines, has recently returned to profitability from a loss-making phase in the 2016/17 tax year. So it's worth a watch. So too, is truck-and-bus manufacturer Hino Motors (HINOY) , which is also an affiliate that makes vehicles under contract to Toyota Motor TM. It reports half-year earnings in a week.
The list of the bottom 10 performers is rounded out by Sojitz (SZHFF) , another soga shosha trading house. It has been less exposed to commodity prices than peers such as Mitsubishi, which has benefited it, while commodities have slumped. It is less leveraged than other trading houses, and hasn't therefore overbought in terms of subsidiaries. But in some eyes, it's the most boring of the trading companies, producing performance like an "annuity," according to Jefferies. The Nikkei newspaper reported last month that Sojitz should outperform its own profit forecasts for the year.
Abe's push to reform Japan's post-war constitution and create a Japanese military will get the headlines in his ongoing tenure. But investors should be focusing on the immediate economic reforms that Abe will continue to push. The three arrows -- easy monetary policy, government spending, and structural reform leading to growth -- will continue to let fly.