Ask the average investor to free associate on the word ‘Japan’ and you’ll likely hear a familiar litany of complaints. Lack of innovation. Decades of deflation. A corporate culture that protects insiders at the expense of shareholders.
That’s certainly one side of the story.
But for Comgest’s Chantana Ward there’s a very different Japan, one that has delivered strong returns over the past few years and promises far more over the years to come.
Her Comgest Growth Japan Yen fund has outperformed its Citywire nominated Topix benchmark over the three years to 31 August 2016, delivering a healthy 53.7% in yen terms versus 27.6% from the index. The fund is also ahead over five years, returning 125.9% compared with the benchmark’s 91.7%.
Winds of change
Citywire AAA-rated Ward believes this is an exciting time for the Japanese market, with valuations relatively undemanding and earnings momentum heading in the right direction.
On the corporate governance front, Ward says Prime Minister Shinzo Abe’s focus on bringing women back to the work force has encouraged transparency – something that has historically been lacking in a market dominated by male workers.
The fact that Japan is currently relatively under-owned is another supportive factor, as is the Bank of Japan (BoJ)’s ongoing asset-purchase programme. ‘Global fund managers are still underweight Japan, and the Bank of Japan (BoJ) has recently increased its purchases to 6 trillion yen a year,’ Ward says.
‘We have the Government Pension Investment Fund (GPIF) and other public pension funds underweight their target. I think GPIF is now only at 21% against their 25% objective.’
Ward also expects Japanese corporates to continue buying their own shares, and foreign investors have increasingly been opening their wallets to the country. ‘Their market shares have moved from 25% two decades ago to 65% nowadays.
They have also become the largest shareholders, with their holdings moving from 10% two decades ago to 30% as for now.’
Meanwhile, cross holdings between companies – which are often seen as a way of obscuring important financial information through byzantine ownership structures – have been on the wane.
‘Cross holdings have largely been unwound for now broadly. They stood at around 50% in the 1990s, but now they are only around 17%.’
While Ward is more interested in company specifics than macroeconomic speculation, she believes a US rate hike wouldn’t adversely affect Japan.
‘In my view a Fed rate hike would be positive for Japan, because it would lead to a strong dollar and a weaker yen,’ Ward says.
A rate hike in the US would also be a clear sign that the US economy is improving, she adds, which would inevitably be good news for Japan as well.
In terms of the impact of Brexit on the country, Ward says the impact on Japanese companies was limited to those exporting to the UK, and even here the impact wasn’t that large. ‘The impact is perhaps around 4% to 5% of those Japanese companies’ operations.’
Meet the team
Cambodian-born Ward manages the fund together with two other managers, Richard Kaye and Makoto Egami. Paris-based Ward is supported by three staff members in Tokyo.
Having a team on the ground is the key to Ward’s strategy. She believes this is what was missing prior to 2009, when the fund’s performance was weaker.
‘Before 2009, the Japan strategy was managed by people – including me – who were not really Japan-focused, and we were actually doing all the regional markets, including Thailand, Hong Kong or other emerging markets.
‘Japan is such a large market that we needed to dedicate 100% of our time to understand it better.
‘If you have to compare companies in Japan and companies in the US, I think there are on average 23 analysts who cover one company in the US, while there is only one or two analysts who cover one company in Japan.
Buy and hold
Ward’s strong on-the-ground support means she’s been able to identify truly solid companies to back, rather than being forced to trade based on momentum.
‘A lot of investors outside Japan tend to think that Japan is not a buy-and-hold market, but we have demonstrated the contrarian way at Comgest. ‘We look for Japanese companies, we find them and we hold them for a long time.
This approach has worked well for the past five years because we have a good team on the ground.
‘If you understand the Japanese market, you actually find a lot of world leaders among Japanese companies. We have a lot of firms that hold a global market share from 50-90%, they have very high value-added products, including niche products.
‘However, they are underappreciated,’ she says.
How to pick winning stocks
Reduced to a simple formula, Ward looks for companies generating earnings per share growth for an extended period of time. However, in practice this is far from straightforward.
‘When we look at those quality growth-based companies, we tend to look at several elements.
First, we look at the sustainability of those companies: we assess the people, the culture of the business and the environment.
‘Second, we look at business models. We favour transparency, recurring revenue, pricing power and quality management.
‘We like companies that are able to grow organically, rather than buying pure M&A, which carries high risk.’
Finally, Ward looks at financial criteria. ‘We like companies that have proven business models, who look at their track records, but demonstrate an ability to generate a strong increase in earnings.’
Ward says she prefers companies that demonstrate sustainability of earnings, thanks to high barriers to entry, good earnings visibility, high global market share and niche products.
Unlike many other asset managers, Ward says she does not use screening to search of companies.
‘When we are finding companies, we do not really look at the data screening, as it are not our priority.
We tend to look at the companies that grow in terms of top line sales, operating profit growth potential, or operating margin improvements and so on.’
Ward’s approach to picking winning stocks is exemplified by some of her longstanding holdings.
Sysmex Corporation, a medical instrument company that specialises in haematology, has been growing for the past six or seven years, and Ward is convinced it will continue to grow for a further five.
She has held Sysmex in the portfolio for more than a decade.
‘The company has a leading position in Japan and has a 70% market share.
‘It also enjoys more than 50% market share in Europe and China, and in the US it continues gaining market share.
‘We like this company a lot because it has a well-balanced business operation with a roughly equal split of profits coming from Japan, China, Europe and
Sysmex has been a consistent performer for over the past five years, and the firm has been consistently able to grow at a double-digit growth rate.
Another stock she likes is Keyence Corporation. ‘Keyence Corporation is outstanding among global factory automation stocks, because it has a stable growth and high profitability, and it offers customised solutions to its clients,’ Ward says.
‘Typically, the company’s operating margin is around 50%, and even during the worst years its operating margin was never below 40%.’
Online retailer of maintenance, repair and operation products Monotaro is another favourite. ‘Monotaro achieved annual sales growth of 10% in 2011, while earnings before interest, tax, depreciation and amortisation growth was over 20%.’
The last stock Ward highlights is a company called M3. ‘We call M3 the Bloomberg for doctors.
The firm holds 90% of the market share in Japan, 80% in the UK and 30% in the US. It just entered the China market not long ago.’
Despite being expensive, Ward finds the firm attractive on a long-term basis. ‘M3 is still growing and it is becoming the global leader without people really noticing.’
Focus on exporters
Domestic stocks had previously been a big contributor to Ward’s portfolio, but as a result of high valuations she has preferred to take profits in this area and trim these stocks over the past two or three years.
‘If you look at those domestic stock companies, they have been performing well, multiplying two or three times within the past three or five years. So we tend to reduce those names that account for more than 4-4.5% of our portfolio.
‘Instead, we have been building up name that are more export-oriented.'
Investment idols‘Since I joined the firm as a fresh graduate my investment idol has been the co-founder of Comgest, Jean-François Canton.
‘He is actually my mentor; I learnt everything from him, including market dynamics, how to manage portfolios and how to pick companies.’
Along with Canton, Ward says fellow Comgest founder Wedig von Gaudecker was a critical influence, introducing her to Warren Buffett’s principles of investment.
This article was originally published on the October issue of Citywire Asia magazine.