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“Japanese equities hit historical highs amid US volatility and China’s struggles”
In today’s investment outlook, we will be discussing our views on Japanese equities, focusing on recent market milestones, sector performance, and key factors driving the market.
4th July marked a historical moment for the Japanese markets, with both the TOPIX and Nikkei indices reaching record highs. Notably, the TOPIX surpassed its 1989 levels for the first time in 34 and a half years, highlighting the market’s resilience and growth. Year-to-date, the TOPIX and Nikkei indices have returned 22.79% and 24.47% respectively in Yen terms, reflecting robust market performance.
While Japan’s corporate governance reforms have garnered significant interest from foreign investors, other factors also explain the outperformance of Japanese equities on a sectoral basis. Key sectors driving this growth include financials, energy, industrials, and technology.
Financials: This sector has seen an impressive 52% YTD return, fueled by hopes of a BoJ rate hike, which has boosted investor confidence.
Industrials: With a 31% YTD return, the industrials sector has benefited from a weak yen, which has supported manufacturers and exporters.
Technology:
The technology sector has returned 30% YTD, driven by enthusiasm for semiconductor stocks and advancements in artificial intelligence.
We believe that the recent increases in inflation and nominal wage growth could significantly improve corporate profitability in Japan, serving as a primary driver of the current equity rally. While we remain positive on Japanese equities for their diversification benefits, we caution that the sustainability of this bull run hinges on a virtuous wage/inflation cycle, preventing Japan from slipping back into a deflationary spiral.
In summary, Japanese equities have demonstrated strong performance driven by sectoral strengths and macroeconomic factors. While the outlook remains positive, close monitoring of the wage and inflation dynamics will be crucial for sustaining the current market momentum.
Preconditions are in place for the Fed to start cutting rates in September, and to cut at least twice this year. Currently, markets fully price a 25bp cut at the September FOMC meeting, 55 bp of easing over the balance of 2024 and 175 bp by 2025 year-end. Extending the bond rally of the past two weeks probably requires further evidence of a weakening economy especially labour market conditions. A sharper rise in the unemployment rate and a more drastic slowing in employment growth could justify a faster pace of easing. Weekly unemployment claim numbers showed an unexpected improvement that countered signs of weakness in the June employment data. It is therefore challenging for markets to price in an even more dovish path. We are inclined to maintain shortened duration of bond portfolios.
Source: Bloomberg Finance L.P.
China HY property credit in 1H24 delivered double-digit total returns, at 31.2% and 50% for BB rated and B rated developers respectively. This is attributed to sharp rebound in bond prices of several surviving developers from depressed valuations and exclusion of defaulted issuers. Given the increased refinancing support, credit metrics of leading developers may finally start to stabilize alongside their scale of operations being pared back to a more sustainable level. After $4.8 billion of bonds having missed their original payment deadline, the default rate is running at 11% year-to-date. As the operating environment remains challenging, it is reasonable to expect further idiosyncratic credit events during 2H24. We are inclined to position in developers that are deleveraging and maintaining at least stable cash coverage on short-term debt.
European credit in the past week saw a relief rally, as results coming out of the France lower house elections have allowed investors to take tail risk events (of both a hard left victory on the one hand, and an absolute majority for the National Rally on the other) off the table, and become more comfortable with the implications on spending / deficit, with little to no additional fiscal slippage expected for a relative majority. While the speed of the rally is likely to slow, the general backdrop is likely to stay constructive absent any surprises, moving back into a relatively low volatility regime through the summer. In turn, European bank AT1 securities are expected to be favoured as investors seek carry over this period.
Source: Bloomberg Finance L.P.
As the second quarter’s earnings season officially commences, we are set to delve into the revisions of earnings growth estimates and briefly discuss the upcoming US election and its potential market implications.
Starting with the consensus estimates, Q2 earnings growth is projected at 8.8% year-on-year (conservative), even after a 50 basis points revision in the past three months. This figure represents the highest growth since Q1 2022, indicating elevated expectations for this quarter.
Source: FactSet, Julius Baer
Sector Performance Insights
Early reporters have set a positive tone, with 85% of them surpassing consensus earnings estimates. Historically, strong early results have been indicative of an above-average beat rate for the overall index. We anticipate a favorable earnings season in terms of beat rates, though the magnitude of the beats might be lower compared to previous quarters.
Turning to the political landscape, recent events suggest an increased likelihood of a full Republican sweep in the upcoming US elections. If this scenario materializes in Q4, historical trends from Trump’s previous term suggest potential higher growth, albeit with sustained inflationary pressures. In this macro environment, we anticipate that the Federal Reserve may delay further rate cuts in 2025 if inflation remains above their 2% target. Sectors likely to benefit include consumer cyclical and communications, as indicated by the earnings revisions shown in the accompanying bar charts.
China’s GDP remains on target at 5%, with June data reflecting a 4.7% year-on-year growth. On the supply side, industrial production sustained over 5%, reaching 5.3%, while exports and manufacturing goods rose by 8.6% year-on-year. Despite clear signs of fundamental recovery, ongoing issues such as the real estate crisis and low consumer sentiment continue to weigh down China’s economy. The uneven recovery post-pandemic suggests that further stimulus may be necessary, which we hope to gain more insight into after the upcoming third plenum on Friday. Given the potential escalation in US-China trade tensions, we remain cautiously bullish on HK/China markets, favoring a tactical trading approach over a buy-and-hold strategy and keeping exposure relatively low.
Mr. William Chow brings over two decades of asset management experience and currently oversees Raffles Family Office’s (RFO’s) Advanced Wealth Solutions division while also serving on its Board of Management and Investment Committee.
He joined RFO from China Life Franklin Asset Management (CLFAM), where as Deputy CEO from 2018 to 2021 he oversaw $35 billion in client investments. William also chaired the firm’s Risk Management Committee and was a key member of its Board of Management, Investment Committee and Alternative Investment Committee. Prior to CLFAM, he spent 7 years at Value Partners Group, the first hedge fund to be listed on the Hong Kong Stock Exchange, where he was a Group Managing Director. He started his career at UBS as an equities trader and went on to take up portfolio management roles at BlackRock and State Street Global Advisors from 2000 to 2010.
William holds a Master’s degree in Science in Operational Research from the London School of Economics and Political Science, and a Bachelor’s degree in Engineering (Hons) in Civil Engineering from University College London in the UK.
Mr. Derek Loh is the Head of Equities at Raffles Family Office. Derek has numerous years of work experience from top asset management firms and Banks – 16 Years on the Buy-side across 3 Major Cities in Hong Kong, Singapore and Tokyo. Derek demonstrates in-depth industrial knowledge and analysis, covering mostly listed equities.
As an Ex-Portfolio Manager for ACA Capital Group, Derek managed a multi-billion-dollar global fund for a world-renowned sovereign wealth fund and reputable institutional investors. Previous notable investors serviced include Norges Bank (Norwegian Central Bank), Bill & Melinda Gates Foundation and Mubadala. Derek holds an Executive MBA from Kellogg School of Management and HKUST. He is also a CPA.
Mr. Tay Ek Pon is responsible for fixed income investment management at Raffles Family Office. He has over 20 years of fixed income experience across Singapore and Japan.
Prior to joining Raffles Family Office, Ek Pon was a portfolio manager at BNP Paribas Asset Management since 2018, responsible for Asia fixed income mandates. From 2016 to 2018, Ek Pon led the team investing in Asian credit at Income Insurance. From 2011 to 2016, he worked at BlackRock, managing benchmarked and absolute return fixed income funds. Earlier in his career, he held several positions as a credit trader in banks for 9 years.
Ek Pon graduated from the University of Melbourne with a Bachelor of Commerce and Bachelor of Arts.
Mr. Sky Kwah has over a decade of work experience in the investment industry with his last stint at DBS Private Bank. He has achieved and receive multiple awards over the years being among the top investment advisors within the bank. He often deploys a top-down investment approach, well versed in multiple markets and offering bespoke advice in multiple assets and derivatives.
Prior to his role at Raffles Family Office, Sky worked at Phillip Capital as an Equities Team leader handling two teams offering advisory, spearheading portfolio reviews and developing trading/investment ideas.
He has been interviewed on Channel News Asia, 938Live radio, The Straits Times and LianheZaobao as a market commentator and was a regular speaker at investment forums and tertiary institutions.
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