Schroder Japan (SJG) fund manager Masaki Taketsume is confident he can continue to generate attractive returns, while cautioning that performance may moderate after the £442m investment trust achieved a 41.2% total gain in the year to 31 July.
The annual results showed the underlying growth in net asset value (NAV) easily beat the 29.3% rise in the TOPIX index and underpinned a 49% total return to shareholders.
With the shares steady in the past two months, SJG currently leads the four-strong AIC Japan sector with a 116.6% total shareholder return over five years. By comparison the TOPIX has risen 75%.
Taketsume benefited from the strong performance of computer chip materials suppliers like Ibiden and JX Advanced Materials, which enjoyed a surge in demand from the rollout of artificial intelligence (AI).
Alongside these, he also maintained his broader approach of identifying undervalued “market misperception” stocks such as industrial and technology business Hitachi, specialty chemicals company Asahi Kasei, and the postal and financial services group Japan Post. All three benefited from “sustainable improvements in earnings or capital efficiency that are not yet fully reflected in valuations”, he said.
AI disruption fears hit several holdings during the year with the manager selling WingArc1st on concerns that parts of its business intelligence software offering were vulnerable.
Overall, however, continued corporate governance reform buoyed the stock market with Taketsume saying Japanese companies were moving beyond share buybacks and dividends to concentrate on more fundamental issues such as capital allocation and business simplification to boost shareholder returns.
Positive inflation, rising wages and persistent labour shortages were encouraging companies to raise prices, invest in productivity and improve operational efficiency. “A more durable cycle of wage growth, consumption and investment would represent a significant change from the deflationary environment that dominated the previous three decades,” he said.
Less positively, a sharp increase in long-term interest rates highlighted the importance of Sanae Takaichi’s government maintaining fiscal discipline. However, the manager said the cost of finance remained low in absolute terms and real interest rates after inflation were still “accommodative”.
Taketsume said the AI investment boom was another concern with valuations of companies in the semiconductor supply chain now at “demanding” levels. Questions over whether data centre operators would make adequate returns, or software and business service providers survive, would keep markets volatile and “create a wide dispersion between winners and losers”.
However, while the market stood at the upper end of its historical valuation range, he said that disguised substantial differences between stocks. “The AI-related leaders typically command high premiums, but in our preferred hunting ground further down the market cap spectrum, we find many businesses trading at significant discounts.
“This disparity should reward detailed fundamental research and disciplined stock selection. It also gives us confidence that we can build a portfolio capable of delivering attractive total returns, even if the overall market advances more slowly,” he said.
The manager boosted the returns from his stock picks during the year with gearing, or borrowing, of 12%-13%. Following the introduction of an enhanced 4% dividend policy two years ago, the shares yield 3.4%, the highest in its peer group.
Two years into a five-year review, the trust is 20.8% ahead of its benchmark. If SJG continues this outperformance it will avoid having to offer to buy back a quarter of its shares in a 25% tender offer.
In April it trimmed its annual management fee to Schroders.
Our view
Richard Williams, senior analyst at QuotedData, said: “Another excellent year for Schroder Japan, with NAV comfortably ahead of the TOPIX index. This was not simply a case of riding Japan’s biggest technology winners, however, as not owning several of the large-cap AI stocks was actually a drag on relative performance. Instead, strong stock selection further down the market-cap spectrum, together with gearing, drove the outperformance. The longer-term record is increasingly impressive, with SJG returning 23.1% a year over three years against 16.4% from the index and outperforming its benchmark by 47.7% since Masaki Taketsume took charge seven years ago. With Japan’s corporate reforms increasingly spreading beyond the largest companies, the environment continues to look particularly well suited to SJG’s stock-picking approach.”
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