Bigger in Japan
On 30 July Sumitomo Trust and Banking Company, the second biggest money manager in Japan, with assets under management at ¥26trn (€192.3bn), bought Nikko Asset Management, Japan’s seventh largest, with just over ¥9trn. It was second only to BlackRock-BGI in terms of this year’s biggest asset management M&A deals and will create Japan’s new number one, and yet media coverage in Europe was curiously muted.
Is that surprising? Perhaps not. Anything with the words ‘Japan’ and ‘finance’ closely associated has struggled to get a look-in for some years now. As Charles Beazley, president of Nikko Asset Management Europe, puts it: “For the last 18 years the best way to make money out of Japan was to ignore the place.”
Owned by Nikko Cordial Securities, which was in turn acquired by Citigroup in 2007, Nikko Asset Management has always played up the strength of its independent branding in a Japanese market dominated by the mutually jealous trust banks, which make it hard for rivals to access their powerful distribution platforms. Until the financial crisis derailed the plan, the business had intended to consolidate that independence by floating publicly.
Is all of that threatened by its having been gobbled up by one of those trust banks - one three times Nikko’s size? Sumitomo has been tactful: “STB Group sympathises with the management philosophy of NikkoAM, and fully endorses NikkoAM’s policy to aim for a listing,” it said when the deal was announced. “By leveraging its independence and neutrality, NikkoAM has managed to establish investment trust product distribution with more than 90% of the country’s regional banks and to play an important role as a provider of investment trusts to Japan Post Bank Co.”
Outside the domestic market, the brand still remains to be built, and the M&A deal might be seen as indicative of an economy that is finally building confidence. Nikko is not alone among Japanese asset managers that have set up shop in London and begin to see a tentative opportunity to take the Japan story back to sceptical investors. Established in 2004, Nikko Asset Management Europe has until recently been a ‘centre of excellence’ focused on sourcing talent to manage fixed income, currency and alternative investment money for clients back in the homeland. Now, however, the firm sees a gap in the market.
After being ubiquitous and very visible in the 1980s and early 1990s, Japan’s banks pulled out of the west when the domestic financial crisis hit. At the same time western financial centres experienced what Beazley calls “the decline in the orientalists”: graduates stepping out of London’s SOAS into jobs with Jardine Fleming and Barings or the UK Foreign Office found their options constrained to the Foreign Office alone. Certainly, most who considered themselves bright fund managers did anything they could to avoid becoming a Japan fund manager.
“All of these factors led to a decline in advocacy for Japan, and a very low level of comprehension of the cultural complexity of investing in Japan and how Japanese investors’ psychology really works,” Beazley reflects. “And yet it remains the world’s second largest economy and the world’s second largest savings pool.”
It’s also a market that has come through 15 years of hard knocks with one of the world’s longest-sustained periods of GDP growth, and a corporate culture that has dealt aggressively with the current downturn. “There’s not much you can teach Japan about how to survive a recession,” says Beazley.
Demographics and the related problem of limp domestic consumer demand remain “the perennial worry”, but Beazley counters the argument that Japan’s necessarily export-led economy leads inevitably to a pro-cyclical bias that makes it a hard sell for strategic allocators. For a start, sterling, euro and dollar-based investors have for a long time enjoyed a currency benefit that has provided an anti-cyclical balance.
“Everyone has an opinion on dollar/sterling or dollar/euro, but very few have an opinion on sterling/yen or euro/yen,” he observes. “When sterling was at ¥240 we were begging UK pension funds to buy Japan for a whole host of reasons, not least of which was the fact that we thought the currency was dramatically undervalued.”
More sustainably, he points to the rise of China as a key aspect of the evolving perception of Japan among Europeans.
“You can see Japan as a genuine Asia play, now,” he says. “Its exports to China are greater than its imports, and not too many countries enjoy that position. That’s been a tremendous supporter of both GDP and many companies’ earnings over the past two or three years.” He adds: “Japanese companies have been generating a lot of cash, and we do think that they are ready to buy companies to access faster growing markets. That’s not just the big companies; the smaller companies are doing the same thing. In terms of competition, Japanese companies have been quick to set up manufacturing capabilities in places like Vietnam, accessing lower-cost labour, but this time making sure they retain their technological advantage.”
This sort of logic has attracted $3bn of net inflows into Nikko’s Japan equities products (which account for almost 20% of its total AUM) over the past two years. Beazley says that a lot of the European institutional money has been heading into the firm’s ETFs - “some from France, some from Germany and Switzerland. We suspect some from Scandinavia, but we couldn’t confirm who the end buyers are” - and this seems understandable given that overall logic for Japan: both the currency and the Asian-export aspects are essentially asset-allocation arguments, and the record of active managers in Japan is unconvincing, to say the least.
“Unless you make a big long-term commitment to Japan it’s easy to get it wrong,” says Beazley. “Where we were starting to win mandates it hasn’t been because of an increase in the asset allocation, but rather existing investors getting tired of 220bps-plus of underperformance every year. The Japan index is generally in the top quartile - so there is not only a tail of underperforming managers, but quite a long tail. That’s intolerable for a pension fund nowadays, when you can buy an ETF, like ours, for 15bps, or look harder for an outperforming active manager.
“On the other hand, if there is desire for active management from pension funds they’ve inevitably gone for our star products, the Value and Growth Equity funds. Both managers are long-serving - 14 years in the case of the value manager and 11 years in the case of the growth manager. We have been managing money for some clients in the Middle East and Europe for 20 years. We are lucky enough at Nikko to have a couple of managers who, were they at any other firm in the world, would be superstars.”
The Japan Value fund certainly walks the walk: it has outperformed in eight of the past 10 years - and only missed by 14bps in one of the other two. The Growth fund has outperformed in eight of the past 14 years, and is consistently top-quartile.
“It’s our job to talk up Japan, but we have to be a pragmatic advocate, recognising that some investors’ recent experience has been dreadful,” says Beazley. “It’s still hard for pension funds to make the move to allocate more to Japan, but it is what we are advocating now. The alpha is there, and you really need to be close to it to succeed.”