One week / one topic: Kaizen + Kaikaku

The land of the rising multiple?

Author

Stefano Amato
March 31, 2025

What happened?

While investors are busy following the latest US tariff announcements, something interesting is afoot in Japan.

For context, Japanese assets were definitely in focus up until last August, when the Topix index staged a 20% roundtrip allegedly on the back of a ‘liquidation event’ – i.e. too many people being long Japanese equities / short Yen, and rushing for the exit door at the same time.

Past performance is not a guide to future performance

What’s perhaps even more interesting is that – after a long period of growing excitement about the prospect for Japanese equities to re-rate, given the strong tailwinds of cash accumulation and shareholder-friendly corporate reform – they remain visibly cheap when compared to most other markets.

As per the below, this has indeed been consistently the case over the last decade – yet the premium on offer for Japanese equities remains historically elevated… and to a large extent, surprisingly so.

Past performance is not a guide to future performance

Digging a bit deeper, we can further observe that the bond market is also reflecting structural changes going on in Japan.

The well-worn narratives of ‘balance sheet recession’ and ‘lost decades’ have given way to a new attitude, so much so that senior policymakers are ‘ready to declare end to deflation’.

Past performance is not a guide to future performance

If we are indeed in the presence of structural changes coupled with attractive valuations, should investors then (again) consider a ‘structural’ overweight bias to Japanese equities?

Our observations

  • Fundamentals: Beyond attractive valuations – which have also improved vs other equity markets – earnings momentum remains favorable following the latest set of quarterly results.

  • Price action: Notwithstanding the aforementioned summer fireworks, the index remains unchanged over a one-year period. Perhaps investors will start questioning this soon?

  • Investor beliefs: Despite strong relative performance as of late, foreign investors have deserted Japanese equities… potentially setting the stage for further outperformance, now that the ‘US exceptionalism’ bubble seems to have burst.

Source: Goldman Sachs. Past performance is not a guide to future performance

So what?

As we appraise our growing desire to own more Japanese equities, the ‘what to buy?’ question naturally comes to the surface.

Sure, they might be cheap and enjoy the benefits of a structural macro shift out of the ‘deflation mindset’ – but this is a huge market, with around 4,000 listed companies!

With that in mind, we are increasingly inclined to explore the small cap space where – everything else equal – we believe there should be less disturbance from tariff announcements, and ideally more space for fundamentals and corporate reform to create value over time.

Source: M&G Investments, Nomura. Please note that companies' names and logos are shown for illustrative purposes only, M&G is not marketing nor promoting the services of the companies listed above nor M&G funds are endorsed by them. The information provided should not be considered a recommendation to purchase or sell any particular security.