Jefferies' 7 predictions for the next 7 years for the Japanese markets

Nikkei 225 index hit the 40,000 mark for the first time ever on Monday, continuing its bull-run that saw the index reclaim its 1989 peak of 34,000 levels in February. as global investors latched on to Japan’s biggest companies on improving shareholder returns, the weaker yen and booming corporate profits. 

Analysts remain bullish on Japan, mostly aided by gains in technology shares. Adoption of artificial intelligence (AI), according to a note by Morgan Stanley, is likely to benefit Japanese companies, which is almost at par with the US-based companies.

“Japan stands out, with 53 per cent of companies seen as AI beneficiaries, which nearly matches the US's share (54 per cent) and stands above Europe (50 per cent) and well above Asia Pacific ex-Japan (39 per cent). Tightening labour markets and digitalisation policy initiatives make this an underappreciated opportunity,” the Morgan Stanley note said.

Meanwhile, on their part, Japanese companies are likely to continue rewarding shareholders and become more capital efficient. This, analysts at Jefferies believe, will keep attracting investors to Japanese equities and push the markets higher. They expect Japan to be one of the top performing markets in the next seven years.

Jefferies’ 7 predictions for the next 7 years:

One of top performing markets: Japan to be one of the top-performing markets between 2023 and 2030: The great 'shareholder return' story in Japan has begun. Many global investors, wrote Atul Goyal of Jefferies in a recent report, are still underweight Japan; but this is likely to change soon. 

Regulatory reforms and tightening: Jefferies expects reforms to snowball. We believe that TSE, Ministry for Economy, Trade and Industry (Meti), and Financial Services Agency, Japan (FSA) will continue to introduce tighter regulations if the companies do not respond adequately. 

 

"If Japan Inc does respond, then they may not need to tighten the norms. Meanwhile, we take TSE's words at face value when it says it will remain "relentless" to drive desirable changes in Japan Inc.," the Jefferies note said.

Institutional investor activity: A rise in institutional investor activity and deeper engagement by investors could create sustained value. "We expect significantly more campaigns than in the past; higher quality of demands beyond buybacks; size of target companies to become big-caps," Goyal said.

Reforms: Jefferies expects 'reform snowball' to push Japan Inc to transform in ways that have not seen in the last several decades with over 80 per cent of Japanese companies responding to TSE's request for improvement in performance to enhance shareholder value.

Consolidation: Goyal expects domestic and friendly takeovers, hostile takeovers, cross-border partnerships/ joint ventures (JVs)/merger & acquisitions (M&As) to take center stage in the next few years. Friendly takeovers (of select business segments, if not of entire companies) is likely to become the norm. "Hostile takeovers cease to be as rare as they have been. Cross-Border partnerships are likely to increase. We expect more deals with geopolitically-aligned countries," the note said.

Return on equity: Japan Inc, Jefferies believes, will find religion in ROE (or a form of ROE - be it ROIC or economic value added), as it reallocates capital toward assets that can generate returns that are higher than cost of capital.

Global companies: Over the next seven years, Japan Inc, Jefferies said, is likely to produce more winners that will shine at the global stage; creating several winners over the next 7 years. Although none will be from the Auto industry, which is likely to struggle to survive and will need to consolidate. Auto industry struggles this decade will be a case study - why speed is important when it comes to change," the note said.