Japanese Stock Market Outlook

SMAM monthly comments & views - March 2017 -

Japanese Economy

SMAM’s GDP growth forecast was unchanged from the last month. Japanese GDP growth is forecast to be faster than estimated potential growth rate around 0.7%. Despite remaining uncertainties, Trump policies in US are expected to stimulate US economy and spread positive effects to global economies including Japan.

• Japanese exports have been growing rather strongly helped by recovery in China and Asia. Exports to US are moving

sideways while exports to EU have been declining.

• Major risk for the Japanese economy will be overseas factors such as a) border tax in US becoming real and b) political

turmoil in Europe caused by Brexit negotiation between UK and EU, and many important elections in Europe.

Japanese Stock Markets

Japanese stock market is expected to gradually move up led by strong US stock market. Earnings forecast will continue rising, which should make Japanese stock market valuation more attractive as the time passes. Overseas economies are growing rather strongly, which would support the industrial production in Japan.

• Japanese equities will be supported by improving fundamentals in the long-term. Double digit earnings growth is forecast for

FY2017 and upward revision can be expected. BOJ is likely to keep extra-easy monetary policies and further fiscal stimulus

can be expected.

• The biggest risk will be how Trump policies could affect the Japanese industries if border tax or other protectionist measures

are actually implemented.

Executive summary

1

Notes: Macro and market views are as of Feb.15th and 17th , 2017 respectively, and subject to updates thereafter without notice

Outlook for Japanese Economy

2

3

SMAM’s GDP growth forecast was unchanged from the last month.

Japanese GDP growth is forecast to be faster than estimated potential growth rate around 0.7%.

Despite remaining uncertainties, Trump policies in US are expected to stimulate US economy and spread

positive effects to global economies including Japan.

Notes: E=SMAM forecasts. SMAM views are as of Feb. 15th , 2017 and subject to updates thereafter without notice (Source) Cabinet Office, Bank of Japan, Ministry of Economy, Trade and Industry, Ministry of Internal Affairs and Communications, SMAM forecasts

(%, YoY except Net Exports)

SMAM economic outlook for FY16-18

( YoY %)

Real GDP growth 2.6% -0.4% 1.3% 1.2% 1.1% 0.9%

Private Consumption Expenditure 2.7% -2.7% 0.5% 0.6% 0.5% 0.6%

Private Housing Investment 8.3% -9.9% 2.7% 6.1% 0.5% 1.0%

Private Capital Investment 7.0% 2.5% 0.6% 1.7% 1.8% 2.1%

Public Consumption Expenditure 1.7% 0.4% 2.0% 0.8% 1.2% 0.8%

Public Capital Investment 8.6% -2.1% -2.0% -2.0% 4.6% 0.2%

Net Exports (contrib. to GDP growth) -0.5% 0.6% 0.2% 0.6% 0.3% 0.2%

Exports 4.4% 8.8% 0.8% 2.6% 3.7% 2.4%

Imports 7.1% 4.2% -0.2% -1.0% 1.6% 1.4%

Nominal GDP 2.6% 2.1% 2.8% 1.3% 1.7% 1.7%

GDP Deflator 0.0% 2.5% 1.4% 0.0% 0.6% 0.7%

Industrial Production 3.0% -0.4% -1.4% 1.5% 3.5% 2.5%

CPI (excl. fresh food) 0.8% 0.9% -0.0% -0.3% 0.7% 0.7%

FY16E FY18EFY13 FY14 FY15 FY17E

4

Japanese exports continue to grow and Asia and China are the main growing destinations

Japanese exports have been recovering rather strongly helped by recovery in China and Asia.

Exports to US are moving sideways while exports to EU have been declining.

Japanese export volume to each destination (yen billion)US EU

Asia ex. China China

Note: Blue lines are for monthly and red lines are for quarterly data.

Data is monthly from Jan 2010 to Jan. 2017.

(Source) Ministry of Finance, Bank of Japan

700

800

900

1000

1100

1200

1300

1400

1500

1600

2010

2011

2012

2013

2014

2015

2016

2017

400

500

600

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1200

1300

1400

2010

2011

2012

2013

2014

2015

2016

2017

400

450

500

550

600

650

700

750

800

850

2010

2011

2012

2013

2014

2015

2016

2017

2700

2900

3100

3300

3500

3700

3900

2010

2011

2012

2013

2014

2015

2016

2017

(Year)

Is it really possible for BOJ to control long-term yield at extremely low level?

10Y Japanese Government Bond yield (JGB) is kept at still very low level by BOJ at less than 0.1% as BOJ’s

controlling target is “around 0%”.

When the scale is magnified for JGB and compared to US and German bond yields, it becomes apparent that

upward pressure is simultaneously acting on these yields.

5

-0.4

-0.2

0

0.2

0.4

0.6

0.8

-0.5

0

0.5

1

1.5

2

2.5

3

3.5

US 10Y (left) Germany 10Y (left) Japan 10Y (right)

10 year Government Bond Yield (%)

Note: Weekly data from Jan. 10th, 2014 to Feb. 24th, 2017

(Source) Datastream (Month/Year)

(%)

Expected stimulative Trump policies in US should make US$ fundamentally strong

US interest rates eased a little recently, which stopped the strengthening of US$ for a while.

US government may not be in favor of strong US$, however, expected stimulative policies would make

US$ strong in the long run.

6

0

0.5

1

1.5

2

2.5

3

3.5

4

4.5

70

80

90

100

110

120

130

US$/Yen 2Y US-JP

Note: Weekly data from Jan. 5th, 2007 to Feb. 24th, 2017

(Source) Datastream

(Month/Year)

(%)(yen) US$/yen rate and US-JP 2Y genernment bond yield gap

0

0.5

1

1.5

2

2.5

3

US

Germany

Japan

Government Bond Yield Spread (10Y-2Y)(%)

Note: Weekly data from Jan. 10th, 2014 to Feb. 24th, 2017

(Source) Datastream

(Month/Year)

7

Trump policy: Is the border tax in US going to be real?

In Japan, the probability of the border tax in US becoming real is not highly rated. This is one of the biggest risk

for Japanese economy and corporate earnings.

Auto is by far the largest source of trade deficit with Japan and deficit on Electrical goods & parts comes second.

Deficits on the latter will be actually larger if electric parts used in goods made in China and exported to US are

added.

Trade deficits of US from Jan. to Dec. 2016

vs. China USD bil vs.Japan USD bil

STIC

codeCategory

Trade

balance

STIC

codeCategory

Trade

balance

1 76Telecommunications

equipment-79.7 1 78 Auto -47.6

2 75 Office machines -62.7 2 77 Electrical goods & parts -8.0

3 89 Other manufacturing -49.8 3 74 General machinery -7.0

4 77 Electrical goods & parts -34.2 4 71 Power-generating machinery -6.3

5 84 apparel -31.5 5 72 Specialized machinery -6.3

6 82 Furniture -21.8 6 75 Office machines -2.8

7 69 Other metal goods -18.2 7 73 Metalworking machinery -2.4

8 74 General machinery -15.9 8 88 Photographic apparatus -2.0

9 85 Footwear -14.7 9 62 Rubber products -1.8

10 65 Textile -10.5 10 67 Iron & steel -1.6

Top 10 total -339.0 Top 10 total -85.8

Total trade balance -347.0 Total trade balance -68.9

(Source) US Census and compiled by SMAM

Political events should gather attention in 2017

Real economic policies in US will take some time to be decided after debates in congress after the statements

made by President Trump in February and March.

Europe is going to face important events such as notification of Brexit, elections in France, Germany and other

countries.

8

Schedule of key events in 2017Month Region/Country Events Notes

Japan First estimate of 4Q 2016 GDP

US (28th) State of the Union Address Trump policy becomes clearer.

US The Budget Message of The President Fiscal plan of the Trump White House is going to be revealed.

Convention of the Liberal Democratic Party Extend maximum party leadership from 2 terms running?

Spring wage negotiations

Budget for FY2017 to be approved

Action plan for changing working practice "Premium Friday" started in 24th Feb. and many workers left office early.

Netherlands General election

UK Notification of exiting EU?

BOJ Tankan business report

BOJ perspective report

Apr or May France Presidential election

Japan Ordinary Session of National Diet ends

Japan Election for the Tokyo Metropolitan Assembly

France Lower house election

July Global G20 meeting

August Germany General election

(Source) Various publications, assembled by SMAM

April

June

Japan

Japan

February

March

Outlook for Japanese Stock Markets

9

Stock market outlook: Waiting for the real Trump policies to take shape

SMAM short-term view Japanese stock market is expected to gradually move up led by strong US stock market. Earnings forecast will

continue rising, which should make Japanese stock market valuation more attractive as the time passes. Overseas economies are growing rather strongly, which would support the industrial production in Japan.

Longer-term outlook (6-months and beyond) Japanese equities will be supported by improving fundamentals in the long-term. Double digit earnings growth

is forecast for FY2017 and upward revision can be expected. BOJ is likely to keep extra-easy monetary policies and further fiscal stimulus can be expected. Risks are how Trump policies could affect the Japanese industries if border tax or other protectionist measures are actually implemented.

Note: SMAM’s projection is as of Feb. 17th,, 2017 and subject to updates without notice.

10

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900

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1,500

1,700

1,900

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n-1

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y-1

4

Ju

n-1

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Ju

l-1

4

Au

g-1

4

Se

p-1

4

Oct-

14

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v-1

4

De

c-1

4

Ja

n-1

5

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b-1

5

Ma

r-1

5

Ap

r-1

5

Ma

y-1

5

Ju

n-1

5

Ju

l-1

5

Au

g-1

5

Se

p-1

5

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15

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v-1

5

De

c-1

5

Ja

n-1

6

Fe

b-1

6

Ma

r-1

6

Ap

r-1

6

Ma

y-1

6

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l-1

6

Au

g-1

6

Se

p-1

6

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16

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v-1

6

De

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6

Ja

n-1

7

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7

Ma

r-1

7

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r-1

7

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y-1

7

Ju

n-1

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Ju

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7

Au

g-1

7

Se

p-1

7

Oct-

17

No

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7

De

c-1

7

TOPIX

Forecast range upside

Forecast range downside

TOPIX index forecast range by SMAM

(Source) TOPIX: Tokyo stock exchange, Forecast by SMAM

(Points)

(Month/Year)Note: Topix data is from Jan. 6th 2014 to Feb. 24th 2017.

Base scenario & Upside / Downside risks for our forecasts

Our Base Scenario is assuming the following views:

• Practical Trump trade policies are made and serious trade disputes can be avoided.

• Expansionary policies in US keep global economies on a growth path.

• Japan’s private consumption to grow mildly supported by wage growth.

• Japanese yen does not get extremely stronger beyond 100 yen against US$.

• Further fiscal stimulus will be made and extra easy monetary policy should sustain economic growth in

Japan.

Upside Risks include:

• Stronger-than-expected global growth.

• Stronger-than-expected measures by the Abe government.

Downside Risks include:

• Confrontational foreign policies taken by Trump presidency shake global trades and deepen geo-political

tensions.

• Populism gains in Europe further destabilizing EU.

• Unexpectedly large impact from the process of US monetary policy normalization.

• Rekindled concern over emerging economies including China.

11

Note: SMAM’s projection is as of Feb. 17th,, 2017 and subject to updates without notice.

12

Global stock market rally has continued in 2017 so far

12

Globally, major stock market indices continued to rise in US$ terms.

Emerging market showed a sharp recovery meanwhile European market is lagging. Probably, political

uncertainties are casting shadow over the investors’ sentiment.

70

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De

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5

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16

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7

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7

MSCIEM/US$

S&P500

TOPIX/US$

MSCIEurope/US$

TOPIX/Yen

US$ based performance of stock markets (Dec 2015 =100)

(Source) Datastream, MSCI and Tokyo Stock Exchange, compiled by SMAM.

Notes: Data is up tp Feb. 24th 2017.

(Month/Year)

PER (Price Earnings Ratio) came down to 14x due to higher EPS forecast

From 30th Dec 2016 to February 10th 2017, PER came down from 14.69x to 14.12x, whereas TOPIX rose from

1518.61 to 1546.56. Japanese stock market valuation in TOPIX is at the middle of the range between 12x and

16x after PM Abe’s second term began.

13

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9F

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-10

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n-1

0A

ug-1

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10

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-11

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1Ju

n-1

1A

ug-1

1O

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1F

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-12

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n-1

2A

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2O

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12

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2F

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-13

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3Ju

n-1

3A

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3O

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3F

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-14

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n-1

4A

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4O

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4F

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-15

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n-1

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-16

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6Jun-1

6A

ug-1

6O

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c-1

6F

eb

-17

Note: Data is weekly from Oct. 26th 2007 to Feb. 10th 2017. TOPIX was 1546.56 at the end of the period. (Source) Tokyo Stock Exchange, Datastream and IBES, compiled by SMAM

TOPIX

(Month/Year)

TOPIX and PER based on 12-month forward EPS

16x

12x

13x14x

15x

PM Abe's 2nd term started

14

Latest 12M forward EPS forecast moved up over 109, and it is less than 1 point from the highest level

reached in December 2015.

12.5% EPS growth is forecast in the coming 12 months.

EPS forecasts by analysts continue to expand

97

109

12.5%

0%

10%

20%

30%

40%

50%

60%

70%

0.00

20.00

40.00

60.00

80.00

100.00

120.00

Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Jan-16 Jan-17

IBES EPS consensus forecast for TOPIX

Historical EPS 12M forward EPS Forecast EPS growth

Note: Weekly data from Jan. 5th 2011 to Feb. 15th 2017.

(Source) Datastream, IBES

(Points)

(Month/Year)

Investors activities slowed so far this year

After the Trump rally, investors are waiting for the real Trump policies.

15

500

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900

1100

1300

1500

1700

-3,000

-2,000

-1,000

0

1,000

2,000

3,000

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Jan Feb Mar Apr May Jun July Aug Sep Oct Nov Dec Jan Feb

Net purchasing of Japanese equities by investor type

Foreign Trust bank Individual Inv. Trust Fund Business corp TOPIX

2015

TOPIX (points)

Bar charts (Yen billion)

(Source) Japan Exchange Group

Note: Data is for Tokyo stock exchange and Nagoya stock exchange up to Feb.17th 2017.

2016

(Month/Year)

2017

16

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