Actively managed Japan stock ETFs outperform in resilient market

Sumitomo Metal Mining

30/08/2024 06:00

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      Index-based ETFs still dominate Japan stock funds
    

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      Small new ETFs try to cherry pick stocks for growth
    

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      Strong yen, optimistic consumers drive Japan stock rebound
    

  
    By Suzanne McGee and Tom Westbrook
       Aug 30 (Reuters) - Less than a month after a Bank of
Japan interest rate hike triggered the biggest selloff since
1987 of the bellwether Nikkei 225 Index, major market benchmarks
have bounced back from their lows although they have yet to
recover to the levels recorded in late July.
    That may be good news for some actively managed
exchange-traded-funds (ETFs), market analysts said. 
    Index-based products still dominate the universe of
Japan-focused ETFs, both in number and assets under management.
But issuers of more recent and still-small actively managed ETFs
say they used the selloff to do what index funds cannot: cherry
pick for their portfolios at a discount the companies they
believe will outperform long term. 
    "We think taking an active approach to investing in Japan
works best," said Shuntaro Takeuchi, manager of the Matthews
Japan Active ETF  JPAN.P . "You can take advantage of the
opportunities that exist when specific stocks vary dramatically
from their intrinsic value," as happened during the selloff, he
said.
    The year-old fund with only $3.8 million in assets is the
smallest U.S.-listed Japan-focused ETF, yet it has returned
21.7% so far this year, according to LSEG. That compares to a
year-to-date gain of 11.3% for its largest peer, the $15.9
billion index-based iShares MSCI Japan ETF  EWJ.P , and a return
of 14.6% for the Nikkei 225 bellwether. 
    Japan is fertile ground for active stock picking because the
largest Japanese stocks do not dominate major indexes the way
the "Magnificent Seven" tech stocks do in the Standard & Poor's
500 index, Takeuchi told Reuters on the latest episode of Inside
ETFs. 
    "That leaves room for stock picking," Takeuchi said,
including in areas like factory automation, construction,
technology, conglomerates and retail companies.
    In April, when Rayliant Global Advisors rolled out its new
Japan ETF, the Rayliant SMDAM Japan Equity ETF  RAYJ.P  in
partnership with Sumitomo-Mitsui DS Asset Management, it also
opted for an actively managed strategy. In the four months since
launch, the fund has gained about 6%, according to data from
VettaFi. 
    "This is a market with thousands of stocks, relatively
shallow analyst coverage focusing on the biggest cap companies
and lots of nuance, and all of that favors active
stock-picking," said Philip Wool, one of the Rayliant portfolio
managers for the new ETF.
    A case in point: Japan Eyewear Holdings Co.  5889.T , one of
many domestic companies that Wool and his colleagues believe
could be poised to quietly grow in response to a strengthening
yen and improved consumer sentiment. 
        Analysts and market strategists agreed 
    these factors could drive higher returns on Japanese stocks
     once more. 
  
    For most of the last 18 months, Japan's indexes rocketed to
new highs as the yen slid and corporate governance reforms drove
up dividends and buybacks. Daiki Hayashi, head of Japan sales
and marketing at J.P. Morgan in Tokyo, said that now the focus
is shifting to individual stocks instead of market indexes.
Managers are finding stocks they believe are poised to grow more
rapidly and outperform benchmarks, typical behavior in a
prolonged bull market, investors and market analysts said.   
    "Active investors can thrive looking for those idiosyncratic
growth opportunities," Wool added. "Smaller Japanese stocks have
done particularly well in the last few weeks."
    In one possible headache for investors, actively managed
ETFs tend to carry higher fees than index-based funds. Rayliant
levies a fee of 0.72% on its fund, while the Matthews Asia ETF
has a fee of 0.79%. Meanwhile, the iShares Japan index-based
fund has a fee of 0.50%. 
    WisdomTree Investments still prefers to offer index-based
ETFs, but builds its own quantitative benchmarks that focus on
value elements, said Jeremy Schwartz, the firm's global chief
investment officer. That permits a degree of customization
without allowing subjective decision-making on the part of
portfolio managers, he said. 
    The $83 million WisdomTree Japan Hedged SmallCap Equity Fund
 DXJS.O  has drawn $23 million in inflows in the last six months
and is up 11.23% so far this year.
    "The recent currency volatility brought a lot of short-term
uncertainty," said Schwartz. "Anytime a market goes straight up
for two years or so, and then hits a bump, people worry about
whether they have missed the opportunity. But this is a five- to
seven-year opportunity and we're still early in the game."

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Inside ETFs: Profit growth helps Japan funds stand out    https://www.reuters.com/video/watch/idRW014229082024RP1/
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 (Reporting by Suzanne McGee; editing by Michelle Price and
David Gregorio)
 ((Suzanne.McGee@thomsonreuters.com; 917-285-4385;))