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Bite the bullet

Last week’s turmoil in Japan could offer a buying opportunity, says Matt Davis

The resurgence in Japan came off the rails last week when the Tokyo Stock Exchange was forced to close early on Wednesday.

The dive followed a government investigation into internet firm Livedoor, which is alleged to have overstated the value of its shares. The reaction on Wednesday saw the Nikkei 225 down by 6 per cent. However, Thursday saw a recovery as the index regained 2.3 per cent, its biggest one-day gain in three months.

Will the market moves act as a deterrent or do they represent a buying opportunity?

Chase de Vere investment manager Anna Bowes fears that last year’s outstanding performance of funds such as Melchior Japan opportunities, Swip Japanese smaller companies and Legg Mason Japan – all up by 80 per cent or more over 12 months – could encourage investors to invest in the market. She urges investors not to get caught up in the excitement and only to invest if it is appropriate for their risk profile.

She says: “The shenanigans in Tokyo are hardly likely to inspire confidence in the world’s second-biggest stockmarket. The retail investor does not appear to be piling into Japan just yet, it has performed so well in the run-up to the Isa season that there is a danger of investors simply looking at what has performed best, without considering risks like these,” says Bowes.

Hargreaves Lansdown senior analyst Meera Patel says some investors called the firm to cancel orders for Japanese funds in the wake of Wednesday’s market falls while Britannic head of Japanese equities Natasha Chetwynd says Livedoor is being talked about as the Japanese Enron.

Perhaps fittingly, the stock’s previously listed name was Livin’ on the Edge and, for a short time, Edge.

Chetwynd says: “The Tokyo Stock Exchange is built to cope with four million orders a day but there were six million trying to get through due to panic selling among investors in Livedoor. If allegations of financial mismanagement are proven, the stock will be delisted and become worthless. Individuals who own it will be wiped out and may be forced to sell other stocks they own to clear their losses.”

Chetwynd says the early closure of the exchange will cause embarrassment in Japan but that such things can be forgotten reasonably quickly. The Nikkei rose sharply after being hit by a 200m fat finger accid- ental trade by a banker in November. However, she says a wider fall in investor sentiment could ensue if Livedoor does delist.

Christows head of research Dan Kemp says although the Livedoor incident could not have been predicted, a correction in the market has been anticipated for some time in light of stretched valuations and stellar returns last year. At the smaller end of the Tokyo Stock Exchange, known as the Mothers smaller companies index, stocks fell by an average of 22 per cent last week.

“In anticipation of such weakness and contrary to the advice of most global strategists, we reduced our recommended weighting in Japan at the beginning of January,” he says.

But Kemp says Japan now represents a buying opportunity. He continues to favour smaller, domestically-oriented stocks over large export-orientated firms.

Patel says: “We have just spoken with JP Morgan Japan manager David Mitchinson in Tokyo and, while some of his stocks are down by up to 30 per cent, he does not see any change in their long-term fundamentals. We are advising those who are keen on Japan not to be put off and, if I had spare money myself, I would be tempted to invest now.”

Framlington Japan manager Anja Balfour demonstrated the benefits of active management last week, selling out of her last internet-related stock, DA Consortium, two days before the technology sector took a beating on the back of Livedoor.

Balfour says it is evident that the computer systems on the Tokyo Stock Exchange are in dire need of an upgrade but is confident about the long-term outlook and will continue to invest on a bottom-up, stock-selective basis.

Institutional investors are also growing keener on Japan, suggesting that the long-term outlook is good.

Insight’s multi-manager team have just invested the diversified target return fund in its first pure Japan equity fund, Close Japan Accelerated Return fund II, a structured product targeting a return of up to 80 per cent from the Nikkei over five years, with capital protection built in.

Head of fund and manager selection Patrick Armstrong says: “The recent market rally in Japan has removed the valuation advantage of the country, we think the reforms occurring in Japan may herald the beginning of a sustainable recovery. This fund allows us to participate in the benefits of the recovery but provides more protection.”

Dalton Strategic Partnership chief executive Andrew Dalton, who employs Ken Nishizawa to run the Melchior Japan fund, says: “The Livedoor nonsense highlights the present inability of the Tokyo Stock Exchange to handle very high volumes of orders. Since 1990, it has been a market where the individual is not present but there has been a pick-up in domestic retail interest over the last year. Given the fundamentals, this is no surprise.”


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