The unwinding of the yen carry trade sparked a significant sell-off. During the two months since then, Japan stocks and related ETFs reclaimed many of those losses. They have then proceeded to dither in recent weeks.
To the credit of the WisdomTree Japan Hedged Equity ETF (DXJ ), one of the largest ETFs in the category, that fund is higher by 2.27% over the past month. The unhedged MSCI Japan Index is lower over that span. That’s an impressive performance and one that could be indicative of more to come. That’s particularly so as the risk premium offered by Japan stocks comes more in line with that of U.S. equities.
Potentially underscoring opportunity with DXJ and other Japan ETFs, that scenario is playing out today. To some experts, the previously slack compensation Japan stocks offered on a risk-adjusted basis relative to U.S. fare is improving.
DXJ Risk/Reward Appealing
Among the reasons the risk/reward scenario with Japan stocks is appealing are the country’s still low valuations and its well-documented efforts to boost shareholder rewards. Many DXJ member firms seize upon these two themes.
“Over Japan’s lost decades, both domestic and foreign investors have had to contend with low payouts even as increasingly risk-averse Japanese corporates shored up their balance sheets with cash. However, the confluence of reflation and structural changes to Japanese corporate governance made a palpable difference to equity returns. Now, Japanese corporates duly compensate investors for the risk of investing in their shareholdings,” according to Nikko Asset Management.
A mission some DXJ holdings have taken seriously is shareholder rewards. It’s always preferable that buybacks and dividends are funded with cash, not debt. Japan has low interest rates that could make it enticing for companies to fund those activities with debt. However, Japan firms, including those residing in DXJ, have the earnings power to support shareholder rewards.
“Therefore, investors look for improvement in corporate payouts underpinned by strong earnings performance. Japanese large caps have demonstrated earnings growth that has kept pace with US firms, and outperformed European companies in the last decade,” added Nikko.
Returns Across Sectors Increasingly Diverse
The good news for investors considering DXJ is that, relative to the earnings prowess offered by Japan stocks, equities there are cheap compared to U.S. equivalents. Additionally, returns across sectors are increasingly diverse in Japan. That’s something that’s not been the case in the U.S.
“Meanwhile, emerging signs that market returns are becoming less concentrated in sectors favoured by foreign investors (like large export-oriented manufacturers who have historically capitalised on yen weakness) and are increasingly favouring those oriented toward more conservatively valued domestic demand-oriented firms are encouraging,” concluded Nikko.
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