MW-32 -- A Welcome but Short-Term Rally

J@pan Inc Magazine Presents:
Weekly Financial Commentary from Tokyo

Issue No. 32
Tuesday, June 17, 2003

============================= EVENT ==================================
Empire - Property Investment Exhibition
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Venue: Tokyo American Club, Azabudai, Tokyo
Date: 28th - 29th June 2003
Time: Saturday & Sunday 11:00am - 7:00pm
Contact: Towry Law International (Japan) Ltd -
Ivan Doherty 03-5210-5503 or

If you're looking for success in investment property in Auckland,
New Zealand - this is an opportunity not to be missed.

Viewpoint: A Welcome but Short-Term Rally

The Bottom Line:

o Global stock markets are in a post Iraq/SARS rally, while the
March-May crisis in Japan was apparently "solved" by the
Resona bailout. While foreign investors are far from convinced
that Japan has done anything to positively change the
situation, the rally in the US, and the Resona bailout,has
them again buying Japanese equities.

o The government would probably like to take credit for the
rally, given that it belatedly introduced a package of
"countermeasures" on May 14. By that time, however, the market
was already turning, and the countermeasures barely got
coverage in the media, let alone serious consideration by

o But Japanese investors have seen rallies like this before
during the 10-year plus bear market in Japanese equities;
they've seen rallies with more signs that the market had
turned a corner. It didn't happen then and is not ready to
happen yet, regardless of what some sell-side pundits would
like to believe.

o The big money managers in Japan (pension funds) already made
up their mind about 2003 when they compiled their planned
asset allocations at the beginning of the year. The conclusion
was to reduce exposure to both domestic equities (and with
less conviction) foreign equities and to become even more
risk-adverse. A sign of the times is the huge success of the
Kokusai Global Sovereign bond fund. Yes, the long-awaited
crash in the JGB market could still come at any time. But if
it does, it won't be a simple exercise of investors shifting
funds out of JGBs into the equity market, because whatever
makes the bond market crash will certainly not be good
economic news, nor good news for Japanese equities.

============================= EVENT =================================
The Entrepreneur Association of Tokyo - For our July seminar
Andrew Silberman, President & Chief Enthusiast for the AMT group,
will inject us with a dose of "success serum."
A presentation about "Guerrilla Marketing", Jay Conrad Levinson's
term for improving business results (like sales and profits) through
unconventional means --without spending a lot of money.
Wednesday July 2nd, City Club of Tokyo. E-mail:

A Welcome but Short-Term Rally

Global stock markets are in a post-Iraq War/SARS scare rally. The US
market has apparently broken up through rebound resistance levels, in
rallying 36.5 percent from a low of 7,178 on the Dow Jones industrial
average to a recent high of 9,794. The March-May crisis in Japan has
been apparently "solved" by the nationalization of Resona Bank, and
even concerns about pension fund "daiko henjo" have apparently abated.
While far from convinced that these rallies are sustainable, investors
are nevertheless going along for the ride. The benchmark index Nikkei
225 briefly topped 9,000 at one point late last week (9,020.89 on
Friday) in its first eight-day winning streak since 1994 and is now at
a six-month high on trading volume, exceeding one billion shares for
the seventh straight day, something that has not been seen since the
bursting of the bubble. While seriously lagging behind the US rally,
the Nikkei 225 is nevertheless up 18.6 percent versus 20-plus-year
lows hit in April (7,603.76 on April 28). But market rotation is
already setting in. On Friday, shares trading for less than 100 yen
(i.e., on the market's short list for bankruptcy) were among those
with the largest trading volumes, including Resona Holdings (up 32
percent for the week), Kumagai Gumi (up 45 percent), Hazama (up 40
percent) and Tobishima Construction (up 62 [percent), ostensibly
because the effective nationalization of Resona has taken the
immediate pressure off the bank to cut loose dud borrowers. But the
rally began with investors first selectively buying leading high-tech
issues as they took their cue from the US market, then purchasing
low-priced, large-cap stocks such as steel producers and then the
"dogs" of the Nikkei.

The government would probably like to take credit for the rally
because it belatedly released its package of measures to stimulate
Japan's stock market on May 14. While market participants did give the
government points for finally recognizing the alarm with which
businesses and the securities-market participants were taking the
plunge in stock prices, those interviewed by the major Japanese media
gave the countermeasures an average "2" out of a possible "5," because
the measures announced largely consisted of items "to study" or were
items dependent on submission of bills by individual Diet members,
including extending the mandate of the Bank Equity Purchase
Corporation (BEPC) from 2004 to 2006, abandoning the requirement that
the banks put up 8 percent of the value of stocks to be sold to the
BEPC as a cushion against secondary losses, relaxing the need for
corporations to get approval from a majority at the shareholders'
meeting to buy-back stocks, moving up the date for "daiko henjo,"
when corporate pension funds return the portion managed on behalf of
the Welfare Pension Fund to the government, and relaxing the
conditions under which these funds can be returned in the form of
stocks rather than as cash after current positions are sold. In
addition, the government indefinitely postponed the planned issues of
government-held NTT and Japan Tobacco issues in fiscal 2003.
Essentially, only foreign investors have been buying Japanese stocks
from the onset of the new fiscal year, and it appears that the rally
in US stocks -- and the Resona Bank nationalization -- were greater
incentives than the government's vague promises to take "stock market

But any stock rally in Japan these days is welcome relief. In fiscal
2002 (as measured by the Nikkei Newsletter on Pensions and
Investments) benchmark returns for domestic pension funds were: a)
minus 24.8 percent for domestic stocks (Topix benchmark); b) plus 4.3
percent for domestic bonds (Nomura Bond Performance Index); c) minus
32.4 percent for foreign stocks (MSCI Kokusai); and d) plus 15.5
percent for foreign bonds (Citigroup World Bond Index). This comes on
top of cumulative under-funded pension liabilities in the Welfare
Pension system of 6.52 trillion yen as of the end of fiscal 2001. Thus
the balance of outstanding welfare pension fund assets is now
shrinking, by 7.6 percent in fiscal 2000, 3.1 percent in fiscal 2001
and further in fiscal 2002. Welfare pension funds are part of the
corporate pension funds companies set up for their employees that is
managed on behalf of the government. And with under-funded pension
liabilities continuing to build despite annual write-offs to top up
these funds, the companies are fighting a losing battle with pension
benefit obligations (PBOs). Thus, while corporate pension funds have
temporarily stepped to the sidelines until there is a clearer view of
a potential change of rules under which funds can be returned to the
government, some employee pension funds have nevertheless been
advising their asset managers to liquidate all funds invested in
stocks, and others are doing effectively the same thing through trust
banks. "Daiko henjo" was first expected to reach 5 trillion yen in
fiscal 2003, but actual stock selling had been running at a faster
pace than expected until companies began preparing for annual
shareholder's meetings, which will peak on June 27, when 1,724
companies -- or 68.1 percent of all companies listed on the Tokyo
Stock Exchange -- are slated to have their shareholder meetings.

The government's stock market support measure, temporarily reduced
concerns about "daiko henjo." Foreign buying, however, has not
impressed domestic asset allocators. According to a Nikkei survey, the
average allocation to stocks of 28 domestic institutions as of April
was back up somewhat from lows in February, but the bulk of new money
continues to go into bonds. In addition, planned 2003 allocations for
the major life insurers and trust banks (which still control some 70
percent of Japan's pension funds) indicate that they will be selling
Japanese equities at every chance they get, as will the major banks,
which have already developed medium-term plans to reduce their
regulatory capital exposure to equities, despite all the talk about
delaying the deadline to restrict bank holdings of cross-held and
other equities to 2006. Moreover, Japan's domestic pension funds are
focusing on short-term returns rather than the "long-term view" they
are supposedly famous for, and on absolute returns. Of the 1,043
corporate pension funds still in existence in Japan, 511 have already
gained approval from the Ministry of Health, Labor and Welfare to
return funds they manage for the Welfare Pension System. But only a
small portion of these have actually converted their pension assets to
cash in preparation for the return of funds. There is a growing
interest in "alternative investments," i.e., hedge fund "funds of
funds," in REITs and global bond funds such as the Kokusai Asset
Management Global Sovereign Fund. Indeed, the Finance Ministry numbers
indicate that Japanese investors have bought a net 6 trillion yen of
foreign bonds since the onset of 2003, versus only .6 billion yen in
foreign stocks.

In addition, the outstanding balance of privately issued investment
trusts is growing rapidly. At the end of April, the outstanding
balance of these funds was 3 trillion yen, and the balances have
increased significantly in the past year. Conversely, publicly offered
investment trusts are less than 60 percent peak levels seen in 2000 at
3 trillion yen. The popularity of the privately offered investment
trusts stems from the fact that the funds can be customized more to
the needs of investors in the fund, while fees are as much as one-half
those of publicly offered funds.

Consequently, regional banks, credit unions and other small- and
medium-sized financial institutions are finding these more attractive
because of currently ultra-low interest-rate levels. The majority of
these funds appear to be global balanced funds, which have more
flexible investment criteria than traditional publicly offered
investment trusts. Conversely, both life insurers and the banks
(including the trust banks) continued to be net sellers of Japanese
equities in the first several months of the new fiscal year.

Japan Has Seen Bear Market Rallies Before
The fall in stock prices during the Heisei bear market is now larger
than the fall in stock prices during the Showa Depression in the
1920s; it is now the worst and the longest bear market in Japan's
recorded history. As Japanese investors who have suffered from the
decade-long bear market in Japan know all too well, rallies in excess
of 15 percent do not make a bull market. During the 13-year bear
market in Japan, there have been 15 rallies of more than 15 percent
and four in excess of 30 percent. One of the biggest surged 56 percent
between 1995-1996 and lasted nearly a year. Then the Japanese
government was still confident in the fiscal and monetary tools at
their disposal to exorcise the malaise and get the stock market back
on track. In April 1995 and again in September 1995, it pumped in 7
trillion yen of fiscal stimulus, while the Bank of Japan lowered
interest rates from 1.75 percent to 1 percent in April 1995,
and again by 0.5 percentage point in September 1995. In other words,
they literally threw everything including the kitchen sink at the
Heisei Malaise. These efforts did for a time appear to be working.
Japan's GDP revived to 3.6 percent from 0.9 percent, and the Nikkei
225 pushed upward through 21,522, a major resistance level. Indeed, on
June 26, 1996, the Nikkei closed at a four-year high of 22,666. But in
the end, these Keynesian stimulus policies failed to cure the malaise.

Bottom line, the current rally in Japan appears primarily based on a
brief respite from the excess supply of equities from domestic
institutions and the US equity rally. Foreign investors point to the
positive free cash flow of Japanese corporations over the past three
years and maintain that there is a bottom-up case for Japan. Money
Watch would respond that, yes, that is true for individual companies,
but not for the market as a whole. Moreover, if the long awaited crash
in the Japanese government bond (JGB) market does come, it won't be a
simple exercise of investors shifting funds out of JGBs into the
equity market, because whatever makes the bond market crash will not
be good economic news.

-- Darrel Whitten

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Written by Darrel Whitten

Edited by J@pan Inc staff (


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