Japan: Land of the Rising Consumer
June 5, 2013
- Consumers make up 60% of Japan's economy, and new government policies could reinvigorate consumer spending.
- Near-term risks include higher prices of imports such as energy and food, as well as consumption tax hikes in 2014 and 2015.
- Japanese stocks are likely to have sharp short-term corrections, given the dramatic gain since late 2012. However, we believe the outlook will remain positive over a multi-year period.
Most global investors haven't had much of a reason to think about Japanese consumers in recent years. An aging population, declining incomes, accumulating savings and deflation helped keep a lid on consumer spending.
Now, a new Prime Minister, Shinzo Abe, is pursuing a strategy to turn around the economy, dubbed "Abenomics." A key part of "Abenomics" is an aggressive new bond-buying program to break consumers' deflationary mindset and spur spending. As of this article's writing, the Japanese stock market is subject to sharp short-term corrections, as seen recently, but we believe the outlook for investors will remain positive over a multi-year period.
Bank of Japan policy boosts wealth and spending
Much like the Federal Reserve's quantitative easing (QE) program, one aim of the Bank of Japan's (BoJ) asset purchase program is to encourage investors to move into riskier assets by making government bonds less attractive. This, in turn, can drive up stock and property prices, resulting in a wealth effect that improves confidence, spending, profits and jobs.
This positively self-reinforcing cycle may have already started. Consumption boosted Japan's economy by 2.3 percentage points during the first quarter of 2013. Consumer confidence is at a nearly a five-year high and consumer spending is recovering, with the 5.2% rise in March the highest year-on-year growth in nine years. A recovering Japanese consumer is good news because consumers make up 60% of the overall economy.
Japanese consumer spending improving
Source: FactSet, Bloomberg. As of May 14, 2013.
The BoJ has set a target inflation rate of 2%—a big shift away from the deflationary trend that has plagued Japan's economy for 15 years, harming corporate profits and jobs. An environment of persistent deflation encourages individuals to postpone consumption in the expectation of lower prices in the future, whereas inflation tends to encourage consumers to spend now before prices rise. In this sense, it's positive that inflation expectations have begun to rise.
Inflation expectations rising dramatically
Source: FactSet, Bloomberg, using 5-year breakeven rates. As of May 20, 2013.
Don't count out Japan's elderly
Japan is one of the oldest nations in the world; 23% of the population, or nearly 30 million people, are over age 65.1 Normally we think of working-age people as spenders and of the elderly as savers—however, in Japan, its elderly actually spend more annually than the population average (1.29 versus 1.20 million yen, respectively).2 And, with average savings of 22.6 million yen ($226,000),2 this segment of the population has cash ready to spend.
Japan's elderly are buying more than just staples; they're spending money on toys (for grandchildren), travel, luxury goods, and conveniences. According to a recent survey by the Japan Association of Travel Agents, seniors traveled more than any other group during the second and third quarters of 2012. Supermarkets are redesigning stores geared toward older shoppers. Additionally, technology companies are designing more products to appeal to this demographic:
- NTT DoCoMo introduced a specialized smartphone that caters to older users, featuring larger icons, a touch screen that vibrates, and simplified steps for sending email and taking pictures.
- The robotic pet "Paro," selling for roughly $5,000, offers companionship and is used in "robot therapy."
- Toyota has developed cars with hand controls and seats that swivel to make it easier to get in and out.
- Household technology is also adapting, with products such as beds with sensors that lock doors and toilet seats that rise automatically when someone enters the bathroom.
Independent living facilities are still somewhat scarce—most Japanese families tend to take care of their own elderly—but attitudes are shifting, and elder care facilities are likely to become more prevalent in the future.
Solid luxury market has potential to grow
Many Japanese consumers can afford to spend on luxury goods. According to the 2012 World Wealth Report, 53% of the world's high-net-worth population resides in Japan—1.8 million individuals. A survey by the Luxury Institute late last year indicated 10% of Japanese consumers expected to increase spending on luxury in 2013, similar to the 9% of American consumers who plan to spend more. Japan remains the third-largest luxury market globally, and Japanese travelers constitute a big segment of luxury spending in Europe.
Planned sales tax increases could boost consumption now
In 2012, Japan's parliament passed a bill to increase its sales tax, or consumption tax, as part of a plan to reduce the fiscal deficit. The bill raises the consumption tax from 5% to 8% in April 2014, and increases to 10% in 2015.
The plan is on hold, awaiting more economic data, with a decision expected in October. If implemented, the increase could boost spending prior to April 2014 and then depress spending in the months after. A report by the International Monetary Fund (IMF) suggests that, over time, improved confidence in the fiscal outlook could offset the negatives of the tax increase. The report notes that there is "considerable room" to increase tax revenue in Japan, with overall tax revenue at around 17% of GDP—one of the lowest among countries belonging to the Organisation for Economic Co-operation and Development (OECD).
Japan's property market rebounds
The property crash in Japan, where prices fell over 90% in some places over more than a decade from 1990, was historic. However, Japan's long forgotten property market is showing signs of life:
- The BoJ has announced it will keep buying Japanese REITs at a pace of 30 billion yen a year as part of its asset purchase program.
- Real estate investors expect that rents will rise as the economy turns around.
- Vacancy rates in Tokyo's top office markets fell for three straight quarters in 2012.
- The supply of apartments in Tokyo has lagged due to limited new development.
- A gauge of condominium sales in the Tokyo metropolitan area jumped 48% year-over-year in March.
- As a result of the rebound in the property market, residential investment reached the highest level in four years in the first quarter GDP report.
- The dividend yield on the Tokyo Stock Exchange REIT Index of 3.5% (as of May 23) compares favorably to the lower than 1% yield on the 10-year Japanese government bond on the same day.
- REITs have raised cash to invest in property, helping to perpetuate a cycle of rising prices.
- The impending consumption tax increase may accelerate new home sales, as it is levied when the buyer takes possession of the property.
A turnaround in the property market would have positive implications for other parts of the economy: increased demand for construction materials and household durables such as furnishings and large appliances, as well as increased employment and profits for banks.
Investment implication and risks
This unprecedented experiment to end deflation and turn around Japan's stagnant economy does carry risks:
- A weaker yen could raise the price of imports such as energy and food, crimping both consumer spending and corporate profits.
- Continued spending depends on rising incomes to keep up with food and energy inflation.
- The elderly may hold back spending if the government uses reduced social security benefits to help rein in the fiscal deficit.
- Japan needs to follow through on reforms, including increasing labor market participation, promoting inward foreign direct investment, reviving corporate activity and deregulation.
- The reaction of the Japanese government bond (JGB) to the combination of potential economic recovery, BoJ purchases, and shift in investor allocations is uncertain. Volatility in the JGB market has increased, and if it continues, or if yields spike higher suddenly, this could undermine investor and consumer confidence.
Stock strength and yen weakness may need a cooling off period
Source: FactSet, Nikkei, Reuters. As of May 23, 2013.
Investors can participate in Japan's revival using broadly diversified mutual funds and exchange-traded funds (ETFs), or through individual stocks. The dramatic and swift moves in the yen and Japanese stocks suggest the need for a cooling off period. We believe the Japanese stock market is subject to sharp short-term corrections, as seen recently. However, we believe Japanese stocks could benefit over a multi-year period—in other words, "Don't fight the BoJ." While the decline in the yen (and resultant rise in the US dollar) causes hedged investments to outperform, if the currency stabilizes, this could make hedging less important going forward.
1. Statistics Bureau of Japan, MIC, as of December 2011.
2. Japan Cabinet Office, 2011.
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