Prospects for Japanese dividends

While this has made Japanese equities seem more attractive to income-hungry investors, there are both pros and cons towards in dividend yield from the Japanese equity markets. 

Ben Willis, head of research for Whitechurch Financial Securities, says: "Japan has no history of a dividend culture but the authorities have realised to get overseas and domestic investors interested in Japanese equities, Japanese companies need to become more shareholder friendly."

To truly judge whether the attitude to shareholders has changed in the long-term, we will need to see how companies react in a more difficult period or in a recessionary environment.Nathan Gibbs

One easy way of doing this, he says, is to pay sustainable and rising dividends. "With the market yielding in excess of 2 per cent and offering evidence of dividend growth, this is an attraction for the ubiquitous investor demand for yield."

As at the end of June this year, the dividend yield on the Nikkei 225 was up at 1.94 per cent - a significant increase on March 2015, and at the time this guide was published was hovering at approximately 2.3 per cent.

Source: Siblis Research

Data from Morningstar shows how payout ratios have improved significantly over the past few years. 

According to Cyrique Bourbon, portfolio manager at Morningstar's Investment Management group, dividends are already high "by historical standards", with the current state of yields at 2.3 per cent relative to the 20-year average of just 1.4 per cent.

Payout ratios have increased to 36 per cent from a 20-year average of just 17 per cent, and there appears scope for further improvements as this is still significantly below the global average of 54 per cent.

"This is supported by the fact Japanese companies are the most cash rich of the major markets globally", adds Mr Bourbon.

Positive outlook

Katsunori Kitakura, strategist at SuMi Trust, says: "Increases in dividends are a positive structural change in Japan. The ample cash on balance sheets, a lower focus on the return to shareholders and lower capital efficiency were all long-term issues in the market. 

"Corporate governance reform brought in by Abenomics is working specifically at company level. Dialogue regarding dividend policy is a key topic on the agenda between investors and companies, and an attractive level of dividend is a key reason to invest, given the increasing number of pensioners and domestic institutional investors seeking yield."

Nathan Gibbs, client portfolio manager of Japanese equities for Schroders, says: "Current conditions are particularly favourable as corporate Japan continues to generate high levels of cash, allowing many companies to increase shareholder payouts while still adding to cash on their balance sheets.

"We remain optimistic this improved governance and higher shareholder returns across the cycle are key positive long-term developments for the Japanese equity market."

According to Kwok Chern-Yeh, the equitable treatment of shareholders by Japanese companies has been "gaining traction" over the past few years.

Mr Kwok comments: "Given the strong balance sheets in Japan, we expect dividends to remain at least stable or gradually increase from a year ago, despite the uncertain environment."

Company case study

Headwinds

There are, however, possible headwinds of which investors should be aware before committing significant allocations towards Japan within their portfolios.

Although companies are paying more out towards shareholders currently, Mr Gibbs warns it is important to consider whether this could be a long-term trend or a short-term 'hook'.

He comments: "To truly judge whether the attitude to shareholders has changed in the long-term, we will need to see how companies react in a more difficult period or in a recessionary environment."

According to Mr Kwok, dividend growth also relies on companies being efficient with their cash and capital, in a way that they have not been doing historically.

He says: "In our view, a lot of companies have moved in a mechanical way to return cash to shareholders, in some cases buying back stock that is trading at relatively higher valuations in the past. This is not efficient use of capital." 

An attractive level of dividend is a key reason to invest, given the increasing number of pensioners and domestic institutional investors seeking yield. Katsunori Kitakura

For David Jane, manager on Miton's multi-asset range, the fact the majority of Japanese companies do not consider dividends "a priority" could be a headwind.

He explains: "Very few companies so far pursue a progressive dividend policy. Also, dividends are difficult to increase at times when wages are not growing for political reasons.

"In the absence of growing wages and inflation, broad-based dividend growth at anything other than a very modest rate is unlikely."

Outlook

But Nick Peters, multi-asset portfolio manager of Fidelity International, says he thinks we are still likely to see rising dividends, and this is the most promising area of Abenomics.

He adds: "You can see the increasing focus on this and corporate governance in the creation of the JPX 400, an index whose criteria specifies strict corporate governance rules.

"These companies should outperform the less restrictive Nikkei 225 and we have a long-term trade to that effect in several of our multi-asset funds."

Alex Blake, client manager on the Baillie Gifford Japanese Equities Team, agrees. He says: "Last year dividends were up by 10 per cent year on year and we believe dividends will continue to grow, alongside earnings growth and as a result of balance sheet normalisation."

This is being borne out in the companies Robin Black, investment manager for global equities at Kames Capital, and his team has been meeting.

He comments: "Balance sheets are generally in good shape and companies can afford to pay higher dividends. According to the Bank of Japan, the corporate cash pile is Y240trn.

"We meet numerous Japanese companies each week and have noted a more proactive approach to balance sheet management."