Ian Cowie: a 33-year high, will it be different this time?

Our columnist assesses the prospects for investment trusts specialising in a region that most retail investors have little exposure to.

Most British investors have little exposure to Japan, the world’s third-largest economy, after more than 30 years of terrible stock market returns. Now, bouncing back from a low base, its main index, the Nikkei 225, has soared to a 33-year high and Tokyo is the top performer among the world’s major markets in 2023.

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The explanation is partly cultural, including a government drive to make Japanese companies deliver decent returns to shareholders, but also based on currencies. A weak yen is boosting exports by car companies, including Toyota and Honda; plus electronics giants, including Sony and Nintendo; plus heavy machinery, including Kubota and Toshiba.

Many readers will be familiar with these global brands but a professionally managed investment trust is the most sensible way to gain exposure to this faraway market, which trades while we are asleep. Apart from anything else, investment trusts can diminish risk by diversification and reclaim Japanese withholding taxes on dividends, which are no longer insignificant for investors seeking rising income.

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For example, the top performer in the Association of Investment Companies (AIC) ‘Japan’ sector over the last year is abrdn Japan Investment Trust (LSE:AJIT), which has delivered total returns of 15%, including dividend income of 2.3%. That might seem like nothing to write home about until you consider that independent statisticians Morningstar calculate AJIT has increased shareholders’ income by an eye-stretching annual average of nearly 29% over the last five years.

It is important to beware that dividends are not guaranteed and can be cut or cancelled without notice. Even so, AJIT has doubled its dividend distributions in less than three years, demonstrating that government-led efforts to make Japanese businesses return value to shareholders are bearing some fruit.

Similarly, Schroder Japan Trust (LSE:SJG) stands second in its sector over the last year and has delivered total returns above 11% and paid 2.2% income, rising by an annual average of just under 7%. If that rate of ascent is maintained, which is not guaranteed, it would double shareholders’ income in just over a decade.

Fidelity Japan (LSE:FJV) ranks third over the last year with a total return of 10% but pays no dividends at all. However, FJV is first over five years and it is instructive to compare and contrast short and medium-term performance in this sector.

Over five years, FJV has produced a total return of just 11% - that’s hardly any more than it managed in the last year. It is a similar story at AJT, where the five-year return is marginally lower than the last year, and at SJG, where the medium-term return is 13%.

These numbers illustrate just how unrewarding Japan has been in recent years - and it has been even worse for managers who disregarded income and placed all their hopes on ‘jam tomorrow’ stories about capital growth in future. For example, Baillie Gifford Japan (LSE:BGFD) has delivered a total return of just under 4.3% over the last year and suffered losses of 8.7% over five years, with negligible income of 0.8%.

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Readers who are lucky enough to still be aged under 50 are unlikely to have any exposure to Japan because its stock market has never recovered to reach the peak it briefly hit in 1989 when the Nikkei touched 38,957. Even after its recent strong recovery, the Nikkei is trading around 30,680.

To be fair, 34 years ago, the Tokyo market was as extremely expensive as it is relatively cheap now. More specifically, Japan was benefiting from not being the US or Britain as the Anglo-Saxon economies struggled with the aftermath of Black Monday when both the FTSE 100 and the Dow Jones indices suffered double-digit losses. Back then, the land occupied by the Imperial Palace or Chiyoda in Tokyo was reckoned to be worth more than all the real estate in California.

Now, as then, there is something to be said for a globally diversified portfolio of uncorrelated assets that don’t move up or down at the same time. Against all that, there have been so many false dawns in the Land of the Rising Sun that it has become a cliché to say so.

I can remember writing a guide, assessing Japan’s recovery potential on the day that Joe, my young son, ran into the room to tell me that Diana, Princess of Wales, had died in a car crash.

It was too soon to invest in Japan back then. Will it be different this time?

Ian Cowie is a freelance contributor and not a direct employee of interactive investor.