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Impact Investing

IPE special report May 2018


Sorting out benchmarks

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This article is an overview of Japanese equity benchmarks – what sort of benchmarks there are, which are the most popular and why.
The Japanese equity market has several published indices. The table below briefly describes each index, their market capitalisation schemes and the breadth of their market coverage. The indexes are readily investable, yet they have a varying reconstitution frequency.
The Topix is calculated by a market capitalisation scheme and is constructed of all names listed on the first section of the Tokyo Stock Exchange. As of December 1999, it contained 1,363 names and covers a broad capitalisation of the Japanese equity market. It has also flourished as a futures index. Topix is usually regarded as the Japanese equity benchmark, and most Japanese pension plan sponsors use it. Its popularity stems from several sources: its market capitalisation weighting, breadth of coverage, investability and the independence of providers. But the most important reason is that the Pension Fund Association (PFA), which has great influence over pension plan sponsors, decided in 1986 to use Topix as the Japanese equity benchmark. Broad-capitalisation indices are most useful when the stocks composing them are classified into subgroups by size and style. Topix is composed by size category: core 30, large 70, medium 400, and small cap were all introduced on April 1, 1998.
In terms of established indexes, the Nikkei 225 is clearly the pre-eminent market index in Japan. It plays a similar role to the Dow Jones Industrials in the US and it remains the dominant market indicator, despite its price-weighting scheme, which makes it almost useless as a representative benchmark. In its defence one has to say that the Nikkei 225 has flourished as a futures index.
The Nikkei 300 was developed to overcome the weakness of the Nikkei 225 and is calculated by market capitalisation. The Nikkei 300 resembles other global indexes, such as the FT/S&P Japan index and the MSCI Japan index. All are sampled indexes with a large capitalisation bias and comprise between 300 and 500 names. However, the Nikkei 300 is not recognised as a benchmark for the Japanese market, as the Topix holds this position firmly. In spite of this, the Nikkei 300’s futures index is used for heading the FT/S&P Japan index and the MSCI Japan, as they both have a similar size bias.
The MSCI-Japan index is constructed to provide a benchmark that accurately represents the opportunities available to international institutional investors. The MSCI-Japan is calculated by a market capitalisation scheme and by its number of 296 names (as of 12/99). It is designed to capture 60% of capitalisation for each industry group. MSCI-EAFE, which includes MSCI-Japan, is recognised as an international equity benchmark in the US, while the MSCI-Japan is recognised as a Japanese equity benchmark. MSCI-Japan possesses a style index category by value and growth, but it does not have a size category.
Last but not least, the success of the FT/S&P-Japan is based on its accuracy and completeness – it aims to capture between 82% and 90% of the investable market capitalisation available for the Japanese market. This ensures that the index is accepted as the definitive performance measure for those needing a global benchmark. It comprises of 296 names (as of 12/99) and is recognised as a Japanese equity benchmark for European investors. FTSP-Japan offers size category (Large and Medium Cap).
The Russell/NRI Total Market Index represents approximately 98% of the investable Japanese equity market, which covers the Japanese domiciled stocks listed on all exchanges and the OTC. The Russell/NRI is the collection of Japanese equity benchmarks, which:
q represent virtually the entire investable equity market;
q represent securities traded on all exchanges;
q are divided into large and small capitalisation indices;
q include benchmarks for value and growth style for large and small capitalisation segments;
q are constructed using an objective and pre-defined methodology, and
q are updated annually to ensure that their structure is adjusted as companies expand or contract.
The capitalisation adjustment for cross-holding shares is the most unusual feature of this index.
Kentaro Sekizuka is an equity index strategist with Barclays Nikko Global Investors in Tokyo

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