Investing in Japan: 30 Years in Review

A scorecard for a 30-year track record of the Nikkei index, as compared with the Dow Jones Industrial Average.

1. The worst market by far For years 1990-2012, Japan presented by far the most unfortunate and painful investment experience in the post-war developed world. The infamous Japan Bubble peaked at the end of the 1989s and then burst in a spectacular fashion in the early 1990s. How it happened has been already well documented but can be attributed to roughly two reasons. First, the once-mighty financial industry, the largest component of the index, was found to be loaded with bad debt, and its management proved to be grossly incompetent to deal with the crisis. Second, the country’s famed tech industry failed to keep up with disruptive changes brought by the advent of the internet. Again, it was the failure of the management that we're unable to cope with changes and make bold decisions. Banks, tech firms or anything else, Japanese companies have not been, and are still not run for shareholders. These are already too well documented.

2. Persistent weakness What has been understood less well is the duration of the period of such weak performances. It took 23 years before the Japanese market finally took off at long last. In contrast to recent memories, the Nasdaq after the tech bubble’s burst spent ‘only’ 32 months to reach the bottom and turned around, while losing almost 80% of the peak value. The Nasdaq rose to a new high, 15 years after it hit the bubble’s peak. The Japanese government refused to leave its stock market to market forces, with denial and a variety of measures to support the market that was heading south. Such moves, however, forced the Japanese market a long time to reach the bottom. The Japanese market was brought down by the bubble’s collapse, and its aftermath should have been dealt with by the end of the first decade, or the 1990s. Nonetheless, banks’ refusal to admit their problems and their under-capitalized balance sheets made the slump longer than it should have been. Every time it looked the worst was over for Japan, it proved to be another false dawn, brought down by a new, unexpected event, with the last one being the global financial crisis(GFC). In fact, the Nikkei suffered nearly as bad ten years in the 21st century’s first decade as the 1990s. It was not till near the end of the second post-Bubble decade (March 2009 to be specific) that the Nikkei index reached the bottom at last. Then, it drifted at around post-Bubble lows for another few years before it began to move upward In late 2012 with the advent of Abenomics.

Differences between the Nikkei and the Dow Jones Industrial Average proved to be spectacular. In each of the past three decades, the DJIA beat the Nikkei by a wide margin, even in 2000-10, the decade that belonged to emerging markets and to a certain extent, Europe, and the U.S. struggled with the burst of the late 20th-century bubble. In the decade that has just ended, Japan came back at long last, but the U.S. still delivered distinctly stronger numbers.3. No longer dead last lately and a decent decade at last As a consolation prize for 2010-19, Japan has outperformed emerging markets and Europe distinctly. EMs are yet to recover fully from the 2003-07 bubble’s hangover and Europe is afflicted with acute structural flaws of the Union. Japan no longer stands at the dead last, and this is something to cheer. In recent years, Europe and Japan are in a similar camp. Both have globally uncompetitive banking sectors. There still are too many banks in Europe and they continue to suffer from capital shortages and a lack of an EU-wide deposit insurance scheme. Japanese banks are well-capitalized these days but they run bloated operations in the domestic market and lack prowess to compete in the global markets. Worse, tech sectors in both regions are not keeping up with the 21st century’s digital age. 4. Fears of FX losses Foreign exchange losses have been an obsession to Japanese investors, institutional or retail. Being so scared of potential losses, they have long been too contented with meager, if any, returns from domestic assets. Over the last 30 years, the U.S. dollar fell against the yen by an average annual rate of 0.9%, which should be an acceptable loss to the majority of those who are scared. Taking a chance of FX losses would have been over-compensated by significantly stronger returns from Wall Street. In fact, there has been a modest FX gain for JPY-based investors over the last ten and twenty years. The 2010s have marked the first decade when the greenback gained against the yen after four decades of relentless falls since Japan’s Ministry of Finance made a historic move to revalue its currency.

3. No longer dead last lately and a decent decade at last As a consolation prize for 2010-19, Japan has outperformed emerging markets and Europe distinctly. EMs are yet to recover fully from the 2003-07 bubble’s hangover and Europe is afflicted with acute structural flaws of the Union. Japan no longer stands at the dead last, and this is something to cheer. In recent years, Europe and Japan are in a similar camp. Both have globally uncompetitive banking sectors. There still are too many banks in Europe and they continue to suffer from capital shortages and a lack of an EU-wide deposit insurance scheme. Japanese banks are well-capitalized these days but they run bloated operations in the domestic market and lack prowess to compete in the global markets. Worse, tech sectors in both regions are not keeping up with the 21st century’s digital age. 4. Fears of FX losses Foreign exchange losses have been an obsession to Japanese investors, institutional or retail. Being so scared of potential losses, they have long been too contented with meager, if any, returns from domestic assets. Over the last 30 years, the U.S. dollar fell against the yen by an average annual rate of 0.9%, which should be an acceptable loss to the majority of those who are scared. Taking a chance of FX losses would have been over-compensated by significantly stronger returns from Wall Street. In fact, there has been a modest FX gain for JPY-based investors over the last ten and twenty years. The 2010s have marked the first decade when the greenback gained against the yen after four decades of relentless falls, since Japan’s Ministry of Finance made a historic move to revalue its currency.

2. Persistent weakness What has been understood less well is the duration of the period of such weak performances. It took 23 years before the Japanese market finally took off at long last. In contrast from recent memories, the Nasdaq after the tech bubble’s burst spent ‘only’ 32 months to reach bottom and turned around, while losing almost 80% of the peak value. The Nasdaq rose to a new high, 15 years after it hit the bubble’s peak. The Japanese government refused to leave its stock market to market forces, with denial and a variety of measures to support the market that was heading south. Such moves, however, forced the Japanese market a longer time to reach bottom. The Japanese market was brought down by the bubble’s collapse, and its aftermath should have been dealt with by the end of the first decade, or the 1990s. Nonetheless, banks’ refusal to admit their problems and their under-capitalized balance sheets made the slump longer than it should have been. Every time it looked the worst was over for Japan, it proved to be another false dawn, brought down by a new, unexpected event, with the last one being the global financial crisis(GFC). In fact, the Nikkei suffered nearly as bad ten years in the 21st century’s first decade as the 1990s. It was not till near the end of the second post-Bubble decade (March 2009 to be specific) that the Nikkei index reached bottom at last. Then, it drifted at around post-Bubble lows for another few years before it began to move upward In late 2012 with the advent of Abenomics.

Differences between the Nikkei and the Dow Jones Industrial Average proved to be spectacular. In each of the past three decades, the DJIA beat the Nikkei by a wide margin, even in 2000-10, the decade that belonged to emerging markets and to a certain extent, Europe, and the U.S. struggled with the burst of the late 20th century bubble. In the decade that has just ended, Japan came back at long last, but the U.S. still delivered distinctly stronger numbers.

3. No longer dead last lately and a decent decade at last As a consolation prize for 2010-19, Japan has outperformed emerging markets and Europe distinctly. EMs are yet to recover fully from the 2003-07 bubble’s hangover and Europe is afflicted with acute structural flaws of the Union. Japan no longer stands at the dead last, and this is something to cheer. In recent years, Europe and Japan are in a similar camp. Both have globally uncompetitive banking sectors. There still are too many banks in Europe and they continue to suffer from capital shortages and a lack of an EU-wide deposit insurance scheme. Japanese banks are well-capitalized these days but they run bloated operations in the domestic market and lack prowess to compete in the global markets. Worse, tech sectors in both regions are not keeping up with the 21st century’s digital age. 4. Fears of FX losses Foreign exchange losses have been an obsession to Japanese investors, institutional or retail. Being so scared of potential losses, they have long been too contented with meager, if any, returns from domestic assets. Over the last 30 years, the U.S. dollar fell against the yen by an average annual rate of 0.9%, which should be an acceptable loss to the majority of those who are scared. Taking a chance of FX losses would have been over-compensated by significantly stronger returns from Wall Street. In fact, there has been a modest FX gain for JPY-based investors over the last ten and twenty years. The 2010s have marked the first decade when the greenback gained against the yen after four decades of relentless falls since Japan’s Ministry of Finance made a historic move to revalue its currency.

5. Cost of patriotism Primarily due to FX factors, Japanese practice of splitting financial assets into two categories, domestic and foreign, proved to be disastrous for Japanese investors in general, but especially for pension funds. Allocating 50% to domestic assets in both equity and fixed income investments gives far too much weight to Japanese assets that few with a sane mind outside the country would choose to have. Japan accounts for only 8% of the world, and the majority of global investors underweight Japanese equities that have returned the lowest numbers by far on this earth over the last 30 years. A 50% weight on patriotism and/ or an unconscious bias FX losses have been costing tens of trillions of yen on the beneficiaries and tax-payers. (No related links on this commentary.)

About the author: Ichiro Suzuki, CFA, is an Advisory Group member at Richard A. Mayo Center for Asset Management of Darden School of Business, University of Virginia. He has retired as Senior Portfolio Manager/ Global Equity Strategist at Nomura Asset Management. Suzuki graduated with B.A. from Waseda University and MBA from UVA's Darden School of Business.