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LGT Beacon: Japan`s corporate earnings surge continues

August 12, 2015

We have been overweighting Japan’s equity market since early 2013, believing that Tokyo’s decision to finally pursue uninhibited monetary policy easing and market-friendly reforms would trigger a strong and sustained corporate earnings rebound.

The latest quarterly earnings season confirms our assessment: corporate profits in Japan continue to grow significantly faster than in any other major market, driven by a broad-based expansion of profit margins. 

The global corporate earnings season for the second quarter of 2015 has produced a clear winner: Japan. The country’s corporations reported by far the fastest growth in earnings and sales, and surpassed consensus estimates by the widest margin. In fact, Japan was the only major market in which all ten sectors reported higher-than-expected growth. This development is perfectly in line with our regional positioning in equities, which favors Japan over all other markets. It gives us little reason to review that assessment at present (see page 4, tactical positioning). 

Stronger growth, more positive surprises

Let us look at the numbers first. Based on the results of 296 out of 310 members represented in the MSCI Japan, earnings per share surged 35% in Q2/2015 year-on-year, surpassing the consensus projection by 15.4% (see table 1, page 2). That’s clearly above the average for both developed and emerging markets. For example, EPS for the MSCI World, with 90% of the results published, rose by only 1%, although that was strong enough to beat the consensus forecast by 5%. The EM managed to report a gain of 2.4%, but that remained 1.2% short of the expected number. Only the Eurozone came anywhere close to producing similarly respectable growth rates and surprise margins (19% EPS gain vs. Q2/2014, 9.9% above consensus, see table 2, page 2).

All in all, Japan enjoyed the strongest profit growth across all sectors, while analysts continue to err on the side of caution. This is the perfect combination of reasons to own equities: robust, underestimated and - in our view - sustainable growth in earnings. 

Japanese earnings momentum should hold up

With regards to the outlook, we continue to believe that Japanese companies are well-positioned to enjoy above-average growth in earnings in the foreseeable future - perhaps even for several years to come. The reasons are the following:

  • The size and the frequency of the gap between actual and expected earnings is large enough in nearly all sectors to suggest that there is yet no broad optimistic consensus on where Japan is headed, let alone a tendency to expect too much. In other words: this recovery and bull market is at a relatively early stage, and there is still room for expectations to rise.   
  • Japan’s economy is reflating since a consistent and important shift in economic and monetary policy in late 2012. Successful reflation is synonymous with an expanding nominal gross domestic product - which in turn forms the basis for corporate earnings. While the resulting weakness in the yen certainly helps boost the yen-value of overseas earnings and exports, which are important for many large Japanese firms, any exchange rate-driven growth will ultimately prove relatively short-lived on a broader level unless domestic deflation can be reversed. So far, the data suggest Japan is succeeding in this endeavor.
  • After two decades of debt-deleveraging (i.e. efforts to pay off debt and boost savings) and deflation, Japan’s companies now have plenty of room to cut cash and equity in favor of raising debt, boosting dividends, and launching share buybacks, without unduly weakening their balance sheets. That would be highly beneficial for shareholders and support higher equity valuations. The authorities and the business community have taken various initiatives to promote shareholder value principles and permanently higher levels of corporate profitability. This trend is likely to last.  

Read more in the LGT Beacon

Read about the resulting investment positioning changes in our portfolios in the LGT Beacon below. To subscribe to a weekly newsletter, click on "Abo".
Note: The next LGT Beacon will be published on 19 August 2015.

LGT Beacon 08/12/2015 (pdf)

From: LGT Beacon Abo