FE Alpha Manager Russell (pictured), co-manager of the CF Ruffer Total Return fund and Ruffer Investment Company, has been taking profits in Japan over the past six months or so, which has coincided with a soft-patch for the stock market. However, he says Japan remains by far the most attractive equity market in the short-to-medium term, pointing to expensive valuations in the UK and US and structural headwinds in emerging markets and Europe as reasons to be cautious elsewhere.
Talking exclusively to FE Trustnet, Russell said: “We are still very enthusiastic about Japan but following the strong rise, we see plenty of reasons why in the short-term there will be a pullback.”
“Indeed it’s already been happening and we’ve been cutting back, as well as increasing our yen exposure to 7 per cent.”
Performance of indices over 1yr
Source: FE Analytics
“However, we’re ready to put money back on the table. I think 50 per cent upside is certainly possible again over the next two to three years. We have taken some money off the table at the moment because of near term risks, but we think there will be better times to re-enter.”
Russell says the 50 per cent gain made by the Nikkei in 2013 in yen terms actually resulted in a de-rating, as earnings growth was higher than that figure last year.
“Today [the market] is at least as attractive – perhaps even more so – than a year ago,” he added.
The manager says the reason for recent share price weakness is a result of the market putting pressure on the central bank to increase its quantitative easing (QE) programme. Russell believes such a move would be a positive in the short-term, but doesn’t think it’s crucial to stock market performance.
“The Bank of Japan will only do this if it needs to, and when/if the risks to the equity market increase. It’s a stand off period,” Russell explained.
“[If this happened I would be happy] because it would mean the market goes up, but I’m not entirely convinced Japan needs it. It will help confidence in the market, though.”
The CF Ruffer Total Return fund’s exposure to Japan has fallen from 18 to 15 per cent in recent months, but remains its largest regional equity holding.
Russell points to the intentional reflating of the economy as the biggest reason for his bullishness, as well as cheap valuations.
“The government has finally recognised that to counteract too much debt you have to have negative real interest rates,” he explained.
“Action has finally been taken, and policy has been put in place to reflate and reenergise the economy. Because of that, the economy and the stock market has got a lot of spring energy in it, because it has been such a basket case for so long. If you can even get 1 to 2 per cent nominal growth in the recovery, you can make a lot of money.”
“Even if it’s only inflation that comes through, the operational gearing that feeds into companies is tremendous because profit margins have been so low. It’s mathematical,” he added.
The £2.8bn fund has a particular bias towards Japanese financials and property, which have an 8 per cent weighting overall. Russell says this gives him access to the whole economy, adding that the banks will be specific beneficiaries of a steepening in the yield curve.
Russell and co-manager David Ballance’s overweight position in Japan helped offset his exposure to gold and inflation linked bonds in 2013.
Though he insists capital protection is his number one priority, returns of 9.69 per cent saw CF Ruffer Total Return marginally outperform its IMA Mixed Investment 20-60% sector average.
The manager’s cautious stance on the global recovery weighed more heavily on performance in 2012, though his fund remains a standout performer over the longer-term, thanks in no small part to its stellar showing in the down years of 2008 and 2011.
Performance of fund and sector over 10yrs
Source: FE Analytics
Russell will talk about his macro concerns in an upcoming article on FE Trustnet.
Scott McGlashan, manager of the £612m JOHCM Japan fund, is also very optimistic about the outlook for Japan over the medium term.
“We’re at 14,500 at the moment – I think the next leg of the Japanese rally will take the Nikkei up to 20,000 points within 12 month,” he said.
A rise from 14,500 to 20,000 would result in a return of close to 40 per cent. However, McGlashan’s time horizon for such a gain is shorter than Russell’s.
The former believes such a gain would be fully justified.
“I think between March 2013 and March 2015 you could see a doubling of earnings, so a gain of 25 per cent from would mean that the index is actually cheaper at 20,000,” he added.
McGlashan and co-manager Ruth Nash have recently launched the JOHCM Japan Dividend Growth fund, which FE Trustnet will look at in more detail in an upcoming article.
The manager says the recent sell-off in the Japanese market has presented investors with a buying opportunity.
“Last week saw the biggest foreign selling of Japan since 1987,” he said. “I welcome this – it’s always better to launch a fund after a sell-off rather than a steep rise.”
