JPMorgan Japanese – stock selection drives outperformance over TOPIX

JPMorgan Japanese, managed by Nicholas Weindling (Pictured),  has announced its final results for the year ended 30 September 2015 during which the companies NAV rose 14.7% (total return in sterling terms), outperforming its benchmark TOPIX index, which returned 6.0%. The share price performance was stronger returning 19.5% during the year. Over three years the Company’s NAV has returned 60% versus 39.4% for the index and over five years the company’s NAV has returned 63.1% versus 35.7% for the index.

Income received during the year rose, with earnings per share for the full year increasing 24.4% to 3.06p (2014: 2.46p). Last year’s dividend of 2.8p was uncovered but the board say they were prepared to accept this as they believe Japanese companies are structurally looking to increase dividend payments and payment ratios. They are therefore encouraged by the growth in income this year and have opted to maintain the final dividend at 2.8p per share.

The managers say that outperformance versus the benchmark was due to sector allocation and, primarily, stock selection with gearing making a contribution. At the sector allocation level the overweight position in services was helpful. The main sectoral was the overweight position in electric appliances although the manager’s say that stock selection within this sector more than offset the negative effect.

The top performing stock was Sohgo Security Services which operates the Alsok brand of home security. The manager’s say it is benefitting from steady revenue growth which is substantially boosting profitability as its costs are relatively fixed. Margins still substantially lag those of the industry leader Secom, which the manager’s believe could be a further source for improved profitability.

MonotaRo was another substantial contributor. It is a business-to-business e‑commerce company that the manager’s say is challenging the traditional Japanese business model of supplying goods via trading companies. They believe that it has many years of growth ahead as it still has a very small share of this industry.

Cookpad is an internet company that started from a recipe website. The manager’s say it is used by the overwhelming majority of women aged 20-50, a valuable demographic, and they believe it will be able to expand into other areas.

Retailer Don Quijote, a long-time constituent of the portfolio, as well as a newer addition Laox (duty free store) both benefitted from the surge in tourists coming to Japan.

Stocks that detracted from performance included Hitachi, Minebea, Omron and SMC. The managers expect Hitachi will deliver solid earnings growth over the medium term driven primarily from the growing revenues in its infrastructure business and initiatives to improve efficiency. The manager’s comment that Minebea has a strong global position in miniature ball bearings. They say this area has seen strong volume growth and they believe this trend will continue driven by their increased usage in automobiles, electric appliances and aircrafts. In the shorter-term, the managers are also positive on their LED backlights for smartphones. Omron is another conglomerate but the manager’s investment case is centered upon its strong position in the factory automation industry. There are several companies in Japan that the manager’s consider to be global leaders in the field of factory automation (Omron, Fanuc, Keyence and SMC – all of which are holdings). The managers believe these companies have an opportunity to grow strongly over the long-term as manufacturing companies in emerging counties will need to automate their production to cope with rising wages. All of these stocks have performed poorly since the summer in response to concerns about global, and in particular Chinese, growth. The managers say they continue own Hitachi, Minebea and SMC because they see little change in their long-term positive outlook and because they believe their valuations already reflect the short-term risks. However, Omron was sold in August in response to the increasingly cautious views regarding China and South-East Asian countries.

In terms of outlook, the managers say that Japan is a cyclical market due to its large exposure to global manufacturing sectors relative to other major markets as well as relative to its own economy. Therefore increasing uncertainty over the global economic environment could weigh on the Japanese market in the near term. They say it is important to remember that Japan is heavily reliant on Asia as a destination for its exports. Over the last thirty years the percentage of exports destined for Asia has increased from around 25% to over 50% now. As such Japan will not be insulated from a slowdown in those markets. As a result of these concerns, the managers have reduced the level of gearing in the Company.

However, they say that, in their view, the long-term outlook is positive: government policy is supportive, the economies of countries in developed markets are improving and, within Japan, companies are starting to emphasise increasing returns to shareholders. They say that they’re focused on companies benefitting from structural changes such as the increasing penetration of internet shopping, the aging population, factory automation, the increasing number of tourists visiting Japan and on companies that prioritise improved shareholder returns.

JPMorgan Japanese – stock selection driven outperformance over TOPIX : JFJ