Alma Eikoh Japan Large Cap Equity Fund

Market Review and Outlook

Topix traded in a narrow range over the month, finishing +1.16% higher, while the equity market was quiet there was more volatility in other areas. Although the Yen closed the month just marginally stronger against the US$, moving from 157.8 to 157.3, it strengthened to 153 at one point. This was driven by a combination of intervention by the Ministry of Finance and weakness in the bond market reflecting a change in investor expectations for when the BoJ may tighten to prevent an inflation overshoot. The benchmark Japan 10-year yield closed the month +0.20% at 1.07%. The resilience of the US$ to the Yen reflects recent investor expectation for US rates to stay higher for longer following robust PMI and employment data. Oil prices weakened significantly however on greater supply fears with Brent falling from $87.9 to $81.6. Foreign investor flows were balanced in the market with business corporations again the largest buyer. The market was led by the insurance sector with plans for non-life companies to aggressively sell down cross-shareholdings and boost shareholder returns, exciting investors. Financials overall were strong reflecting the higher interest rate environment with banks marking a strong gain of +7.6%. On the other side of this trade real estate and land transport stocks were very weak as investors started to price in the negative impact of higher interest rates on these businesses. Topix Value outperformed Topix Growth by 0.6% and has outperformed by 10.3% since the start of the year.

May saw the completion of full year earnings results for March year end companies. In aggregate they reported sales growth of +4.3% and recurring profits growth of +12.3%, outpacing analysts’ earnings forecasts. Forecasts for fiscal 2024 look on the face of it disappointing calling for flat profits, some 8% below consensus. The forecasts are however predicated on very conservative assumptions with Yen rates, for example, typically set at 140-145. Alongside earnings results, many companies announced buybacks and clear commitments to sell cross-shareholdings; this, rather than reported and forecast earnings, was the most interesting element of the earnings season. Cumulative share buyback commitments since the start of 2024 have now reached Y9trn and tower over the previous highest numbers at this stage with 2019, 2022 and 2023 all shy of Y6trn at the same point.
Economic news was mixed over the period with several rather dull releases. Industrial production undershot expectations with a fall of 0.9% MoM in April, though within this SPE was a bright spot. The Economy Watchers Survey Outlook Index fell for the third straight month in May to just 47.7, with the Current Index also weak at 46.8. The Nikkei/Markit PMI composite showed a modest MoM improvement for the third month running however, unemployment remains low at 2.6%, and the jobsto-applicants ratio high at 1.26x. While the market is expecting some acceleration in inflation going forward, published data suggest stability so far, with various measures of inflation clustered around 2%. In May the BOJ announced that they would buy less bonds during its regular purchase operation and is expected to raise the target rate from its current 10bps at some point before the end of the year.

While Geopolitics remains a significant source of risk, current economic and market conditions appear broadly favourable for Japan. While the weak Yen brings costs as well as benefits, it is overall a clear positive for the corporate sector. Demand in Europe and parts of Asia remains depressed; however, the US continues to offer surprisingly robust growth and there are signs that the AI boom may be about to broaden out to consumer devices and the wider tech supply chain. Japanese companies are performing well at the operational level and carrying out aggressive financial restructuring to boost capital efficiency and ROE through the sell down of crossholdings and other assets, redeploying this money in share buybacks and higher returning investments. It is interesting to note that the major buyer of the market this year is the corporate sector, not overseas investors, with Japanese financial institutions the net sellers of scale.

Looking at where opportunity lies in the market on a medium-term view, we feel that this is more likely to be found in some of the underperforming growth stocks than in restructuring value, where it is increasingly hard to find companies that are unequivocally cheap. Growth has now underperformed Value for three and half years and this move throws up some interesting opportunities though, as ever, selection is paramount. The valuation of the portfolio is at about a 10% premium to that of the market and this reflects a modest bias towards growth to try to capitalize on this opportunity. Stock specific risk continues to be the key driver of active risk at 78% of all, style and industry bets are modest. The portfolio has an ex-ante beta of 1.00 and in terms of style factors is underweight momentum, overweight growth, underweight value, and underweight size. In order of scale, the fund’s top sector overweight positions are Financial Services, Consumer Durables, Health Care Equipment & Services, Food, Beverage & Tobacco and Consumer Staples. The top underweight sectors are Capital Goods, Telecommunication Services, Automobiles & Components, Materials and Insurance. The Topix is trading at a prospective PER of 15.9x, a PBR of 1.45x and a dividend yield of 2.10.

Fund

The Fund rose by 0.94% (JPY share class) in May, underperforming the Topix (dividends reinvested) by 0.22%.

Stock selection hurt fund performance in May with these losses not covered by the gains from sector allocation. Underweights in Automobiles & Components and Materials as well as overweights in Commercial & Professional Services, Home & Personal Products, and Semiconductors & Semiconductor Equipment added value; these more than offset the drag from underweights in Utilities and Insurance as well as the overweight in Real Estate Management & Development. At the stock level, sports shoemaker Asics, synthetic film and fibre manufacturer Kuraray, and endoscope maker Olympus rallied after releasing their results. Department store Takashimaya rose after monthly sales in April showed robust inbound demand, breaking a historical high. Laggards after reporting the results were electronic component maker Taiyo Yuden (still weak profit recovery), waste management operator Daiei Kankyo (conservative guidance), and megabank Mitsubishi UFJ (scale of buyback smaller than expected). Weakness in the mid cap segment resurfaced in the second half of May and this affected fund names such as transaction service provider GMO Payment Gateway and media and advertising company CyberAgent.

During the month we invested in Sony where the valuation now looks attractive after substantial underperformance so far this year. We think prospects for profits growth look good over the next three years with strong progress expected to be achieved in Image Sensors, Games and Music. Cash flow generation has improved markedly, and we are encouraged by the capital discipline the company showed in its pursuit of the Paramount Film business. We think that the tax-free spin out of Sony Life to shareholders will start to attract interest as we move into 2025. We sold our shares in component maker Ibiden following a fresh analysis of prospects for its core packaging business. This is a very capital-intensive operation where substantial investments need to be committed in advance in anticipation of future demand and technological trends. While we can see good prospects for its sales of packages for AI servers, the outlook for demand from Intel and AMD for general server demand remains murky and price competition appears to be developing in these market segments. With weaker demand and cashflow projections we think that better opportunities exist in the market.