12 August 2018

Although earnings results were a dominant driver in share prices for much of last week, Turkey's growing economic turmoil which had spilt over to other EMs, eventually led to a global sell-off on Friday. With political tensions on the rise as the US is going into battle on multiple fronts with China, Iran, Russia and now Turkey, we retain our generally cautious stance on the Japanese market.

In Japan the news that caught our attention was a leaked report indicating that the BOJ board policy meeting late last month was very divided between those who were pushing to normalise and signal for a rate rise and those members opposed to tighter monetary policy and abandoning the bank's inflation target. What has also become very notable looking at Japan's corporate earnings of the past two quarters are the rising input costs and growing labor shortages which seem to be getting passed on down the chain and should sooner or later reflect on the CPI too as it is transpiring in the US.

Although BOJ left its QE program unchanged last month, as we have argued, the bank has been dramatically tapering already with its this term's bond purchases likely to come close to half its Y80tn target. With its balance sheet having grown to over 90% of Japan's GDP, very little long-dated JGBs left that are trading in the secondary market, and with big wave of maturities leading to problems in matching liabilities for insurance firms and pension funds, we think BOJ has simply ran out of time.

What again is clear, even before these leaks about its last policy meeting is that Japan's longer term rates are on their way up and pressures on BOJ to abandon its inflation target has become insurmountable as we explained in our previous week's note. To reiterate, we remain generally bullish on Japan's financial stocks, namely its top banks and insurers which look undervalued relative to where we are in the interest rate cycle and with very attractive dividends, especially for yen-based assets.  

We think the prospects of steeper yield curve and a more likely scenario for a stronger yen could lead to a strong out-performance by banks and insurers while potentially weighing on Japan's techs and machinery names which are still mostly trading at fairly high valuations relative to their historic earnings averages and considering their fast peaking growth rates.

With most of the earnings results now behind us, we think the time looks right to short some semiconductor-related names again, having cut most of our short picks a few weeks back as most looked oversold. We thus, add back Advantest (6857) to our shorts, having temporarily removed the name just before its earnings results in late July which led to its brief surge but not as high as had feared. As we pointed out then, the rebound in these tech names were mainly technical while weak memory pricing, weak crypto-mining activity and a slowdown in semiconductor capex will once again come back to haunt these stocks.

We are generally pleased with share price reactions of our two existing short picks, Shiseido (4911) and Taiyo Yuden (6976) which we focused on last week ahead of their quarterly results. Another name within in our shorts which is reporting this week is V Tech (7717) which we believe is most likely to be feeling the headwinds of falling display panel prices and declining outlays in both LCD and OLED segments.