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No gain without pain for Japanese market

As the Japanese government launches another rescue package to help revive its ailing economy, UK managers of Japanese funds remain sceptical that there will be an upturn in the market in the short term.

Despite some strong spikes in the Nikkei index recently, many analysts believe the Japanese market will not show long-term growth before there is confidence that the economy will recover and a fundamental change in the way firms treat their shareholders.

The Japanese stockmarket has had a rough ride in recent months. The Nikkei 225 has fallen by 18 per cent to 16,575 on March 13 from a high of 20,681 last June.

If the collapse in Asian markets has had any positive spin-off, it is that fund managers and analysts are now looking closely at the financial structures and systems in place throughout the region.

That makes a change from recent years, when the West conveniently turned a blind eye to a series of corruption scandals and happily punted on the huge annual growth figures of 10 per cent-plus coming from the region.

Many Western banks are feeling the pain of having exposure in Japan and other Asian countries. Schroder revealed a provision of £32m a week ago to cover Asian losses.

Outlining its investment strategy for 1998, LGT Asset Management says the financial crises in Japan and other North-east Asia countries reveal shortcomings in the way the Japanese financial sector is structured.

The fund manager says: "The ways in which the Japanese growth model undermined good corporate govern ance, transparency and accountability and promoted corruption is becoming clearer with every high-profile corporate bankruptcy."

It expects Japan&#39s woes to continue because the problems are more than financial, having political, social and cultural dimensions.

The Japanese government has rolled out several rescue packages worth a hefty 75trn yen (£354bn) since 1992. But Western investors are still waiting to see a fundamental change. Meanwhile, other markets are beginning to look more attractive, which makes life difficult for managers of Japanese funds.

Michael Wood-Martin, who manages the £24m Henderson Onshore Japan fund, says: "It is demoralising because I think Western investors have expected too much. It is tricky when you see other markets going to the races."

Western analysts and investors have pinned their partly hopes on Japanese firms changing their approach to cost-cutting. But they remain frustrated by a culture which demands that firms protect employees&#39 interests before looking after shareholders.

Global Asset Management has two Japanese funds, a dollar-denominated offshore fund, GAM Japan, and GAM Japan growth, an Oeic launched last June. Both are managed by Paul Kirkby, who kept losses in the $951m GAM Japan fund to just 0.4 per cent last year.

Investment communications manager Dana Moore says Kirkby has been cautious of the Japanese market for some time. She says: "We have seen bits of optimism, mostly on the back of stimulus packages but, until the recovery is self-containing, he remains cautious. Although there has been fundamental change in Japan, not enough has been done at the micro level."

Moore says the market is unlikely to rise consistently until there is a US-style approach to cost-cutting and restructuring, particularly in the fragile banking sector. Major banks have asked the government to bail them out with almost £10bn of taxpayers&#39 cash.

She says: "In the banking sector, although there has been some corporate activity, there remains a reluctance to close down banks. They have to be willing to take the pain before we see change."

Denis Clough, who runs the £500m Schroder Tokyo fund, is unconvinced that the most recent rescue package will fix Japan&#39s problems.

He says: "What people are looking for in the package is that it will get the economy growing in a sustainable way."

Clough believes the government is taking the wrong approach in structuring the package towards a public works programme rather than introducing tax cuts.

But although he thinks it is unlikely that the economy will grow this year, Clough says the Japanese market offers active fund managers a good chance to beat the index because of its inefficiency.

"Very little of the market is owned by professional investors. There are some companies which we see as very cheap and some which are very expensive," he says.

Clough argues there are small signs that Japanese management is beginning to treat shareholders better in some areas, bringing a measure of confidence back to the market.

Wood-Martin remains quietly optimistic that there is still some life in the Japanese market. He says: "What the government is trying to do is quite substantial. My view is that 1998 will be better than 1997 and better than what people are expecting."

Smaller caps were hit particularly hard last year, down by about 35 per cent, but they are leading the market&#39s fight back in the early part of 1998. Wood-Martin sees this as a sign that the market will improve further.

"I know people are calling the market lower but that to me is a good indication that the market is probably at its worst."

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