As Covid-19-related negatives begin to fade, Fidelity Japan Trust PLC’s Nicholas Price believes Japan is particularly well placed to perform in a global recovery. In particular, he outlines the emerging opportunities relating to digital transformation and environmental efficiency which look set to reward investors over 2021.
• Crucial to 2021 will be the speed with which we exit from the current crisis; the extent and the rapidity of the cyclical recovery; and the mid-term inflationary outlook.
• We continue to favour companies in key sectors related to energy efficiency, medical technology, Asian consumption and digital transformation.
• We are engaging with our holdings to continually improve the sustainability of their businesses, which should also enhance their performance as investments.
What is your investment outlook for Japanese equities in 2021?
Japan is a cyclical market dependent on global growth so hence in a 2021 global recovery it is well placed to perform as the virus-related negatives fade and the comparisons become easier.
Going forward, the key issues will be the speed with which we exit from the current crisis, the extent and the rapidity of the cyclical recovery, and finally the mid-term inflationary outlook due to the scale of the monetary and fiscal stimulus globally.
What do you think could surprise the market in 2021?
On the positive side, I think that analysts are underestimating the degree of operating leverage when the sales and revenues recover. In the initial stages of a recovery, company managements are reluctant to add cost, which can lead to profit surprises and an earnings-driven market. Additionally, trade tensions have depressed companies’ capital expenditure now for over two years and there may be some recovery if they ease.
On the negative side, I would mention inflationary pressures - if the global recovery is too strong or regulatory costs rise significantly from many much-needed environmental initiatives.
What themes, sectors or regions would offer opportunities or potential risks in a post Covid-19 world?
Clean energy and environmental efficiency are areas where Japan has some very competitive companies that can supply solutions to the regulatory and productivity needs of customers globally. Covid-19 has also accelerated trends in e-commerce and digital transformation needs of companies. As profits recover, companies will prioritise those areas. More ethical consumption is also likely to be important in business to consumer facing companies.
How do you expect sustainability factors to influence returns and how is this reflected in your portfolios?
Sustainability is a core part of the Fidelity-wide investment process and assessing which companies can sustainably grow over the midterm is a key part of my portfolio construction. We are engaging with our holdings to continually improve the sustainability of their businesses, which will also enhance their performance as investments.
Olympus is an example of a great core business that is contributing to society and human health via its endoscopes, where it has 70% global market share. Its management changed in 2019, with a better focus on corporate governance and with a more independent board of directors, conducting buy backs and exiting their loss making camera business.
During one-to-one engagement meetings with the CEO and a member of the Audit Committee, who we believe has both external and internal perspectives and is the right person for us to listen to in terms of changes within the company, we confirmed that Olympus is working diligently on governance reforms and that there is a strong commitment by management to reform the company. Our engagement meetings strongly support our positive proprietary ESG rating, which is formulated on a forward-looking basis.
What are your areas of highest conviction and where are you avoiding?
I am generally looking out over three to five years for companies with a long runway of growth and competitive advantages in a growing addressable market. Key areas which share those characteristics would be energy efficiency solutions, medical technology, Asian consumption and digital transformation providers.
Japan also has a lot of under-researched mid-cap companies which are creating new markets that I have conviction in. I am generally avoiding companies who have had a one-time boost in Covid-19 related demand, or where the recovery will be very delayed.
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