Opportunities in Japan and high quality, short duration credit

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Chief Investment Office12 May 2022
Photo credit: DBS

Japan was sold off in line with the rest of the world as the Russia-Ukraine conflict deepened. Japan is not directly impacted by the crisis, but a spiralling oil price will have a heavy impact on its economy. As a heavy industrial user of oil and a net oil importer, a higher oil bill will worsen its trade balance. We estimate that a USD10 increase in oil price will reduce trade balance by 0.2% of GDP and raise inflation by 0.35 %pts. For an economy which is still coping with Covid recovery, higher inflation would affect domestic sentiments further. Moreover, the Japanese yen has weakened as it loses its safe haven status under the threat of a widening yield gap as a result of Federal Reserve tightening, thereby worsening the import bill. Electronics exports have been Japan’s key engine of economic growth. The outlook remains intact with the prospect of easing China policies despite near-term concerns of supply disruption due to lockdowns. Looking forward, we expect a limited economic rebound in 2Q after a negative 1Q.

We believe Japan’s key inflation gauge could top 2% in the coming months — a number that the Bank of Japan (BOJ) has been targeting after nine years of aggressive monetary easing to bring the inflation up.  After Japan’s real estate and stock market bubble burst in the early 1990s, Japan has gone through two decades of zero nominal growth in the economy.  We think the BOJ is likely to stick to its loose monetary policies of yield control and expand its fiscal stimulus programme to ease the impact of inflation and let it overshoot. 

We are generally cautious on Japan but believe that there are opportunities to seek out under a weak yen and high inflationary environment. We recommend staying in sectors with quality big companies where Japan has a global competitive edge. A potential re-opening of the country to more foreign visitors shall favour the domestic stocks and tourists should be attracted to the weak yen. With 10Y BOJ yield still capped at 0.25%, high dividend yielding names should be supported by local funds.

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