March 10, 2009
THE TROUBLE WITH JAPAN
Japan has been a thorn in portfolio strategy's side for over a decade, and more of the same is on tap for the foreseeable future.
As the world's second-largest economy after the U.S., with a stock market capitalization to match, Japan looms large as an influence in the global economy and the capital and commodity markets. Unfortunately, the influence has been largely negative since the early 1990s on matters of asset allocation.
A summary of the trouble can be found by comparing the MSCI Pacific Index to its counterpart that's identical save for excluding Japan's equity market. The disparity in annualized total returns (in $ terms via Morningstar Principia) for the 15 years through January 2009 is striking:
• MSCI Pacific -1.4%
• MSCI Pacific ex-Japan +1.8%
Excluding Japan has clearly been a boon to allocating assets in Asian markets, and to global equity allocations generally. To the extent you lightened up on the Land of the Rising Sun over the past 15 years, the better your investment results. That wasn't necessarily true if you engaged in tactical asset allocation with Japan as a distinct variable, but it held true for a buy-and-hold investor with a global equity position.
As always, the strategy you should have embraced is unambiguous. Deciding if it'll work in the future is something else. It's tempting to simply steer clear of Japan, as many investors have done in global equity mandates over the years. It's hard to imagine many investors will act much differently going forward. But avoiding Japan as a general rule opens up a can of strategic worms, and so no one should rush to judgment.
Simple answers may look appealing, but they're not always the slam-dunk they appear to be when it comes to designing and managing a multi-asset class portfolio. As such, we'll be taking a closer look at the question, and the portfolio implications in the April issue of The Beta Investment Report.
Meanwhile, a few observations:
* Japan's current economic outlook, unsurprisingly, has fallen on hard times, along with the rest of the global economy. The immediate cause of the latest round of Japan problems is suggested by BCA Research, which recently advised that "the Japanese manufacturing sector has collapsed, and further production cuts lie ahead."
* Japan's equity market is currently 10.8% of the total global equity market capitalization, according to Standard & Poor's. That compares with the current U.S. equity market weight of 43.2%.
* The S&P Japan BMI equity index's total return is -41.2% for the 12 months through last night. That compares with -47.6% for S&P Asia Pacific BMI over the same period (both in $ terms), -48.0% for the S&P U.S. BMI and -51.7% for the S&P Global BMI index, which represents the entire world's equities.
Posted by jp at March 10, 2009 9:13 AM