Outlook mixed after Abe victory

While prime minister Shinzo Abe’s victory in the election this past Sunday will boost Japan’s economy in the near term and investment in domestic stocks, say market participants, the outlook remains mixed over how markets will react long-term.

The Liberal Democratic Party and the New Komeito Party secured a majority of seats in Japan’s upper house in a landslide election on Sunday, uniting the previously divided upper and lower houses.

Supporters argue this gives ‘Abenomics’ – the three-pronged economic reform that involves aggressive monetary easing, fiscal stimulus and other support measures designed to boost economic growth – the legs it needs to take off.

Tokyo-based Nikko Asset Management is unsurprisingly bullish after Sunday’s election, re-coining the phrase ‘super-Abenomics’.

“In our view, Abe’s victory in the upper house is bullish for Japanese equities and the Japanese economy as a whole, as the removal of political headwinds bolsters the government’s ability to press forward with all three arrows of its growth strategy,” says John Vail, chief global strategist. He expects ‘super-Abenomics’ to surprise investors on the upside.

Nikko AM highlights the Japanese government’s push to grant approval for large-scale resorts and implementing legislation for a domestic gambling industry. Both measures, though sensitive, would boost tourism, Vail notes, who expects to see legislation approving gambling within the next six to nine months.

Another controversial move would be restarting nuclear power plants. While this has understandably received much opposition following the 2011 Fukushima disaster, Nikko AM says it will have a long-term positive effect on the economy.

The firm argues that restarting safe reactors is key to improving Japan’s competitiveness by providing reasonable energy costs for producers and consumers. Failing to restart them will keep the trade deficit large and raise questions about the sustainability of Japan’s finances, Vail argues.

Alvin Liew, senior economist at Singapore’s United Overseas Bank (UOB), sees Abe’s victory ensuring a period of stability for his government until the next general election in 2016, which will boost the domestic growth rate in Japan.

“The Japan story has been reinforced [by this election], definitely. Having the upper and lower house united provides that political stability, which means policies will be more cohesive going forward and provide a smoother passage for legislation aimed towards the economic reform itself,” Liew says.

Liew says some of the necessary reforms – such as lowering the corporate tax rate, at 36% the highest among developed economies, and joining the Trans-Pacific Partnership – are doable and likely to happen sooner rather than later.

“They also want to do the best they can to be part of the Trans-Pacific Partnership as soon as this July, which would also be viewed as very favourable to the Japanese domestic economy,” Liew says.

Joining the TPP – a free trade agreement between the US, Australia, Brunei Darussalam, Chile, Malaysia, New Zealand, Peru, Singapore and Vietnam – would make Japan, already heavily export-driven, a “formidable exporter”.

However, Liew remains skeptical on some of the latter phases of the reforms – namely, labour market reform and immigration.

“These are very difficult,” Liew says. “In Singapore or Hong Kong, the market is very open for foreign labour. [In Japan] the population is ageing rapidly and the replacement age is far too low. Clearly Japan needs to tackle [this issue], and it will be a very difficult and very pressing challenge for them.”

Liew argues that handling labour market and immigration issues is necessary to sustain Abenomics in the long term, adding that many participants remain dubious as to whether this can be done.

Nikko AM is more upbeat. While Vail acknowledges that Japan will never throw its doors “wide open to immigration”, he notes that the Abe administration has already started accelerating efforts to boost the professional foreign workforce in Japan. It has done so by introducing a number of initiatives, including tripling the number of English teachers in Japan and increasing labour participation among women, Vail says.

Stock markets have reacted favourably to ‘Abenomics’ so far this year – the Nikkei was up nearly 37% year-to-date as of yesterday.

The rally has instilled a level of confidence that will very likely lead to the implementation of some of the simpler reforms, such as the corporate tax reduction and joining the TPP, Liew says. It will also likely encourage capital inflows from both Japanese and offshore investors into the stock market, he adds.

“We’re not looking at a tidal wave of investment. But we are [expecting] increased foreign participation in the next three to six months and longer term,” Vail agrees.

Yet a senior distribution executive at a large fund house says most of the money flowing into Japanese equities is coming from offshore investors. He estimates that only one in 10 local Japanese investors he has spoken to in recent weeks is investing in domestic stocks. But the election could well act as a catalyst for local investment interest, he says.

Meanwhile, Vail says there will likely be an uptick in the amount of onshore and offshore investment into real estate and hedge funds.