A new era for Japan?

The abdication of Japan’s Emperor Akihito means an extended holiday for the country’s stock markets - and a chance for DFMs to again ponder the puzzle of Japanese equities.

It may take more than a week of contemplation - markets are shut until May 7 - to work out exactly what the future holds. The hope is that the false dawns of a Heisei era that was defined by the country’s lost decade(s), are finally over. 

But the sun is not exactly shining just yet. Investors' love/hate relationship with the country has taken another turn for the worse in recent months. The net proportion of global fund managers overweight Japanese equities fell to its lowest level since November 2016 this month, according to Bank of America Merrill Lynch. 

That’s partly explained by Japanese equity funds’ performance: in sterling terms, the typical strategy has lagged equivalents in the UK, Europe, US, Asia and emerging market sectors so far this year. The significance is that Japan funds also underperformed on the way down at the end of 2018.

There are plenty of new headwinds for the economy, too, even if renewed Chinese stimulus ultimately helps prop up demand for Japanese exports. Tokyo's latest consumption tax hike is due to come into force in October, and there are signs the Bank of Japan may not be as accommodative as it once was in its quest to stoke inflation. This at a time when its quantitative easing programme is already being tapered.

None of that will make for attractive reading for allocators. But the old arguments in favour of Japan haven't gone away, either. Valuations remain at relatively attractive levels on a number of metrics - not something you can say of many equity markets nowadays.

Then there's the diversification case: Syz Asset Management points out that Japanese stocks have a correlation of 0.66 with the US and 0.7 with Europe, which again is not to be sniffed at. It's arguably for these reasons that most DFMs haven't been as quick to cut their weightings as they have for the likes of European exposures. They'll be hoping that the long-run benefits outweigh the short-term woes.

Volatility variations

Volatility may have resembled a somewhat academic concept on more than one occasion in recent years, but there's no doubting its significance for wealth managers - particularly in an era of risk-rated portfolios. But the way in which portfolios are categorised doesn't always make it easy to compare DFMs on this front.

We compared Balanced portfolios in our MPS tracker based on their stated levels of volatility, and found a relatively tight spread of one-year figures.

The readings ranged from 6.4 to 9.4 per cent: encouragingly, that meant most came in below the 9.2 per cent reading for the Pimfa Balanced benchmark. Those who focus on a longer period tend to come in even lower. Most firms that reference a three-year time horizon, for example, see volatility clock in below the six per cent mark. 

But as these examples suggest, the use of different time horizons is widespread, and doesn't make comparisons easy.

Take some of the terms referenced in Balanced portfolios: while some wealth firms simply talk about annualised volatility levels, others refer to estimates and “expected” readings. Of those who look at specific timeframes – be that three years or five – it’s often unclear whether or not these are annualised figures.

It’s a reminder that while DFMs are keen for their portfolios to stand out, they should only be doing so for the right reasons - not because the way in which they measure risk and reward differs from their peers.

The missing part of this equation is, of course, performance itself. We'll be taking a closer look at wealth managers' outcomes in the next couple of weeks.

Do the hike thing

The central bank meeting of choice this week is, as ever, at the Federal Reserve. The narrative shift from potential hikes to potential cuts has been so swift that Fed watchers have had little time for a breather.

But the biggest monetary policy surprise of the next few days could yet emerge closer to home. The Monetary Policy Committee has tried its best to avoid ruffling feathers in recent times, albeit with mixed success: one 25bps cut in 2016, followed by a single hike in each of the last two years, caused plenty of sound and fury on each occasion.

Few expect anything of interest to emerge from Thursday's meeting, but Pantheon Macroeconomics thinks a hawkish turn is on the cards.

With Brexit parked for a few months, and economic data relatively strong, the forecaster thinks there's a 70 per cent chance of rates rising this year. So while a 9-0 vote in favour of a hold is all but guaranteed this week, it predicts the BoE will seek to "recalibrate" market expectations for the coming months.