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research and market views together with an explanation of the
Eastspring Investments Japan Smaller Companies Fund focuses on significantly mispriced mid and smaller companies primarily listed in Japan. The market benefits from the fact that cash-flow earnings, price to book, and return on equity in the region have not been priced into stock valuations. Structural improvements in corporate governance are leading to an unprecedented focus on both improving returns on capital and sharing these returns with shareholders. Again, this has not been fully recognised by the wider investment community.
Axis analyses the fund from four perspectives to bring you insight,
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Review By Nicola Brittain
COMPANY_ Last Word
The Baillie Gifford European Fund has a pretty convincing premise, it invests in companies that are leaders in niches often overlooked by the wider investment community. When combined with a long-term approach, when the general market is increasingly short term, this strategy means the fund is able to buy quality stocks at often excellent valuations.
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“The European equities team, led by Stephen Paice, chooses stocks with the following characteristics: they must be aligned to their customers and Baillie Gifford’s long-term philosophy; they must show good growth potential; and they must have a competitive edge over their peers.”
JOB TITLE_ Investment Writer
YEARS IN INDUSTRY_ 6
LOCATION_ London
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Impressive valuation process finds opportunities in Japan small caps
COMPANY_ Square Mile Investment
To view Square Mile Investment Consulting and Research Ltd's disclosure on their involvement on this site, please click here.
JOB TITLE_ Research Manager
A_
“This attractive fund will suit investors with a long-term perspective.”
The most promising ideas within the Japanese small caps sector are subject to intensive company analysis and financial modelling. This part of the process appears well thought through and clear in its intention. As the wider market tends to focus on the short-term, the team is able to take advantage of these mispriced opportunities thanks to a longer-term investment mindset.
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Last Word
Perspective
Max Godwin has been managing the Japan Smaller Companies Fund since he joined Eastspring in 2007, and the fund has significantly outperformed the benchmark since then. The market, according to Eastspring, is both attractive and undervalued just now meaning long-term investments have the potential to continue to outperform significantly.
So what other factors are at play here? Perhaps the most important is that mid and smaller cap companies make up the largest segment in Japanese equities (at about 2,000 stocks) meaning that investors have a great deal of choice. There are rich pickings too, according to Eastspring, since a longer-term improvement in trend earnings is yet to be priced into a wide range of stocks by investors.
In this environment, Eastspring believes that stand-out investment opportunities are found by going against the herd - this contrarian strategy is core to its investment philosophy. This approach runs alongside a strict valuation process that finds long-term relative value opportunities. The company begins its search by systematically looking for the most mispriced companies based on a range of long term absolute and relative valuation measures. Broker sentiment is used as a contrarian indicator. The approach is not to focus on short-term earnings but consider intrinsic fair value based on what the business is likely to earn on average over the longer term.
In addition to widespread structural changes, Eastspring believes the fact that there are so many stocks to choose from, and that so few of them are covered by brokerage companies, contributes to their attractiveness. “Coming across an exciting stock that the rest of the world has missed is not difficult in the Japanese small caps sector,” Godwin said.
Eastspring’s long-term approach means it benefits from the wider market’s short-term focus on thematic macroeconomic news flow. The enthusiasm for popular themes can drive unrealistic return expectations and a disregard of the investment’s real value.
The fund invests on a stock by stock rather than sector basis, but does see specific opportunities in retail and property-related stocks, non-bank financials, electronic and auto-component manufacturers, specialist materials, industrials companies and regional banks.
When all this is combined with a cyclical recovery - Japan reported its seventh successive quarter of good economic growth before Christmas - the sector looks very attractive indeed.
Japan small caps sector provides rich pickings
AUTHOR_ NICOLA BRITTAIN
The team at Eastspring conduct deep iterative research on the best potential ideas. They consider the full history of a company’s delivered earnings within the context of its competitive landscape and the potential for structural change to its competitive position. The team use a range of valuation methodologies to test sensitivity to changes in their trend assumptions. This approach anchors decisions around what the market is already ‘pricing’ for an asset and ensures there is significant valuation upside. Investment in the sector requires patience and a genuine understanding of the longer-term drivers of trend earnings, but offers the greatest potential long-term rewards, according to the company.
One of the drivers of earnings, according to Eastspring, is the structural improvement in corporate governance within Japanese companies including many small-cap stocks. Perhaps the most obvious result of this change in governance is the ongoing structural improvement in returns on equity coupled with an increased willingness to share these greater rewards with shareholders. This change has arguably created the perfect environment for bottom-up stock pickers. Godwin said: “The pace of improvement is very much case by case, company by company. This means it’s a rich environment. Japan is a very big, deep market.” He went on to explain that the wider investment community hasn’t quite grasped the extent of structural changes in the region which provides rich pickings for those more familiar with them. Godwin, who has been running the fund for ten years, said that these changes have become apparent within the last six or seven.
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Kames Global Diversified Income Fund
Fund
Vincent McEntegart has been managing the Kames Global Diversified Income Fund for six years and is well-versed to the changeable financial climate. Curabitur blandit tempus porttitor. Aenean lacinia bibendum nulla sed consectetur.
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The success of this fund does rely on the team successfully identifying and picking a list of stock winners and, so far, that stock selection has been a strong driver of the fund’s performance over time.
From a long-term perspective, we think this value-oriented approach can be a powerful way of adding attractive relative performance, although investors must remain mindful that the smaller companies space can be very volatile, particularly over shorter time frames. The fund might struggle when the wider market is chasing certain themes, such as richly-valued stocks. However, we believe the strategy that this fund follows should shine best during periods where valuation factors perform well.
Investors should always check the share-class particulars before investing but we think the fund’s GBP share class in terms of its ongoing charge figure (OCF) is reasonable considering that investors have access to a well-resourced team that conducts extensive research analysis in a space that is under explored by the wider market.
AUTHOR_ AMAYA ASSAN
“We think the Eastspring Investments Japan Smaller Companies Fund is an attractive proposition for long-term oriented investors. Historically, the small caps space has provided plenty of prospects for active managers to add value. The manager of this fund has invested in Japanese companies and following markets for many years, and he, alongside his fellow colleagues at Eastspring, have refined the investment process to capitalise on the opportunities.”
The team narrows the investible universe using some sensible valuation-based screens which allow it to concentrate research efforts in an efficient manner. Although the fund’s typical hunting ground is in the bottom third of publicly-listed companies in Japan (in terms of market capitalisation), these screens allow the team to cover a large universe of over 2000 companies. They also mean it can focus on what matters most - potential investments with the biggest valuation disparities.
The most promising ideas within the Japanese Small Caps sector are subject to intensive company analysis and financial modelling. Again, this part of the process appears well thought through and clear in its intention, that of gaining a thorough understanding of the drivers of a company’s returns and whether they reflect its longer-term sustainable earnings potential. As the wider market tends to focus on the short-term, the team is able to take advantage of these mispriced opportunities thanks to a longer-term investment mindset. We think this is a sensible approach.
Max Godwin has been running the fund since April 2007, and over his tenure, three and five-year cumulative returns have been very strong, with the fund outperforming the Russell Nomura Mid Small Cap index comfortably. The chart above highlights the fund’s rolling returns versus this benchmark. Note that while this index is used for performance comparison purposes, the fund is not managed with this index in mind.
This attractive Japan-focused fund will suit investors with a longer-term investment horizon. The fund holds between 40 and 50 stocks that offer the most compelling mispriced opportunities in the Japanese smaller companies’ space.
Historically, the small cap segments of the Japanese market have provided plenty of opportunities for active managers to add value. The manager, Max Godwin, has spent his investment career following markets and companies in Japan and has refined the investment process to capitalise on Japanese small cap opportunities.
We have a high regard for funds that go the extra mile, typically with a well-defined investment philosophy, a clear process, a sensible portfolio construction, and a supportive investment group. Additionally, the management teams behind such funds often have clear investment objectives and an appropriate time horizon to meet them. This fund has plenty of the characteristics that we like. The manager has steered the fund through different market conditions and followed companies through both good and bad times. He is well supported and works closely with his team, who share a similar way of assessing company value.
The team at Eastspring believe that investors tend to overreact or underreact to news flow, such as the release of earnings guidance. Shifts in investor expectations and general risk appetite can lead to more movement in a company’s stock price than is justified by its operational fundamentals. This emotional reaction is ripe for exploitation, according to the company. While this might seem a sensible strategy, it does need to be accompanied by a disciplined research framework that objectively assesses stocks. And Eastspring team’s investment process seems to be just that. It has been in place for a number of years, with all team members contributing to research analysis.
A well-defined investment process to suit longer-term investors
Lynn Hunter, investment research analyst Square Mile Research
Square Mile
Perspective
Fund buyers' perspective
Four fund buyers provide their take on the Japan smaller companies market.
Market Reaction
Next
Jonathan Woo_ investment research_ Santander Asset Management
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“There has been considerable structural reform in giant markets like India, China and the Pacific Tiger economies. It’s a time of change from investment in infrastructure to innovation. Baillie Gifford looks for superior growth, meaning its style is suited to this change. They make some debatable valuations but are valiant investors and can spot businesses with great fundamentals early. They are picking the sort of businesses that have the potential to steam ahead and accrue multiple years of earnings growth for investors.”
Scott Spencer_ Investment Manager_ F&C Multi-manager solutions, BMO Global Asset Management
“The key rationale behind Income Maximiser is the delivery of a 7% yield. The use of derivatives in the portfolio means the upside is therefore limited but we find the fund is a lower beta way of getting equity exposure as well as some downside protection.”
“The fund managers of Schroder Income [Nick Kirrage and Kevin Murphy] pick the stocks, and the derivatives for Income Maximiser are then written accordingly. We like the fact that derivatives provide a diversification element and we have a great deal of confidence that the derivatives are run by a separate team. It is a very different skill set and is a USP of theirs.”
Richard Philbin_ CIO_ Wellian Investment Solutions
Mona Shah_ head of collectives_ Rathbones
“After years of lacklustre performance, Asia and the emerging world experienced a resurgence last year, driven by rising commodity prices and a fundamental shift in favour of more cyclical sectors like financials, energy and materials. But many of the fortunes of Asia and emerging markets are driven by sentiment from the West, which was negatively affected by the US election in November. While markets have regained their initial losses, we’ve had no more clarity on what Donald Trump’s policies will mean with regards to global trade and protectionism. For this reason, we believe that diversification should offer benefits in a period where markets are likely to be volatile. In addition, the economies in Asia-Pacific are showing increasing dependence on domestic demand, and we believe funds exposed to growing demand from consumers in China, for example, may be better placed to withstand headwinds from the US.”
Robert Shepherd_ Director_ Bright & Co.
We were on the lookout for something different and, let’s face it, 4% or lower is the norm in this environment. So this is attractive”
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Achievable, sustainable, reliable
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Fund
Manager
Perspective
Fund Buyer
Perspective
This demo version has been optimised for desktop, laptop and tablet. Smartphones, iPhones will be supported in the next version.
to bring you insight, research and market views
together with an explanation of the strategy
directly from the fund manager himself.
Axis analyses the fund from four perspectives
Eastspring Investments
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Max Godwin has been managing the Japan Smaller Companies Fund since he joined Eastspring in 2007, and the fund has significantly outperformed the benchmark since then. The market, according to Eastspring, is both attractive and undervalued just now meaning long-term investments have the potential to continue to outperform significantly.
So what other factors are at play here? Perhaps the most important is that mid and smaller cap companies make up the largest segment in Japanese equities (at about 2,000 stocks) meaning that investors have a great deal of choice. There are rich pickings too, according to Eastspring, since a longer-term improvement in trend earnings is yet to be priced into a wide range of stocks by investors.
In this environment, Eastspring believes that stand-out investment opportunities are found by going against the herd - this contrarian strategy is core to its investment philosophy. This approach runs alongside a strict valuation process that finds long-term relative value opportunities. The company begins its search by systematically looking for the most mispriced companies based on a range of long term absolute and relative valuation measures. Broker sentiment is used as a contrarian indicator. The approach is not to focus on short-term earnings but consider intrinsic fair value based on what the business is likely to earn on average over the longer term.
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Manager of the Eastspring Investments Japan Equity team, Max Godwin, is also responsible for ‘smaller companies’ strategies for the company and has been with Eastspring for over 10 years. He has been working in the financial services industry for 25 years and focusing on Japanese equities for 20 years.
Portfolio Manager, Eastspring Investments Japan Smaller Companies Fund
Max Godwin
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The most promising ideas within the Japanese small caps sector are subject to intensive company analysis and financial modelling. This part of the process appears well thought through and clear in its intention. As the wider market tends to focus on the short-term, the team is able to take advantage of these mispriced opportunities thanks to a longer-term investment mindset.Scroll down to read more...
Lynn Hunter, investment research analyst, Square Mile Research
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to bring you incisive analysis, research and
Fund Manager’s own investment strategy.
Axis interrogates the fund from four perspectives
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the company and has been with Eastspring for over 10 years. He has been working in the financial services industry for 25 years and focusing on Japanese equities for 20 years.
Manager of the Eastspring Investments Japan Equity team, Max Godwin, is also responsible for ‘smaller companies’ strategies for
The most promising ideas within the Japanese small caps sector are subject to intensive company analysis and financial modelling. This part of the process appears well thought through and clear in its intention. As the wider market tends to focus on the short-term, the team is able to take advantage of these mispriced opportunities thanks to a longer-term investment mindset. Disclaimer »
The team narrows the investible universe using some sensible valuation-based screens which allow it to concentrate research efforts in an efficient manner. Although the fund’s typical hunting ground is in the bottom third of publicly-listed companies in Japan (in terms of market capitalisation), these screens allow the team to cover a large universe of over 2000 companies. They also mean it can focus on what matters most - potential investments with the biggest valuation disparities.
The most promising ideas within the Japanese Small Caps sector are subject to intensive company analysis and financial modelling. Again, this part of the process appears well thought through and clear in its intention, that of gaining a thorough understanding of the drivers of a company’s returns and whether they reflect its longer-term sustainable earnings potential. As the wider market tends to focus on the short-term, the team is able to take advantage of these mispriced opportunities thanks to a longer-term investment mindset. We think this is a sensible approach.
Max Godwin has been running the fund since April 2007, and over his tenure, three and five-year cumulative returns have been very strong, with the fund outperforming the Russell Nomura Mid Small Cap index comfortably. The chart above highlights the fund’s rolling returns versus this benchmark (chart viewable on desktop and tablet only). Note that while this index is used for performance comparison purposes, the fund is not managed with this index in mind.
“I am not familiar with the Eastspring fund but the company does a good job with large caps in the region and small caps is an interesting segment. There are many high-growth small cap companies in Japan, and although they tend to be technology companies (such as e-commerce and robotics), we prefer to view them in a thematic way in terms of the aging population or other demographics. In general, earnings growth is good for this sector. Small Japanese companies had a hard time in 2016 and we are currently seeing a rebound. ”
Damian Barry_ investment manager_ 7IM
StJohn Gardner_ managing director, Investment Management_ Arbuthnot Latham
“Companies increasingly need to compete for labour, and this tightening of the labour market is helping push up wages, particularly for non-regular workers. The Japanese economy is running a positive output gap, and prime minister Shinzō Abe’s strong election win paves the way for a continuation of Abenomics. The Bank of Japan is pressing on with its asset purchasing and yield curve control, which in turn should be negative for the yen, and positive for Japanese equities. The smaller capitalisation end of the market is more domestically focused, and so benefits disproportionately from an improving domestic economy. Furthermore, sell-side coverage in Japan for smaller companies is very limited, hence there are enhanced opportunities for active investing.”
Paris Jordan_ analyst_ Sanlam FOUR
“Our view on Japan has been positive for some time and this was reinforced after our visit earlier in the year. The changing environment, including prime minister Shinzō Abe’s corporate policies along with the country’s demographic shift, has resulted in a unique environment for Japanese small caps. M&A activity is on the rise as the population diminishes and families are unable to pass businesses on to their successors. The corporate mind-set is changing too, albeit slowly, allowing the growth of an entrepreneurial spirit that has not been seen in decades – this could provide an extended tailwind. These factors give small caps a supportive environment, as does the political environment, as such we are unsurprised to see market sentiment shift towards Japan.”
Simon Evan-Cook_ Premier Funds
“We're keen on small-cap investing across many markets, and Japan is no exception. It’s a big, deep market with plenty of stocks and inefficiencies, exactly the kind of things good small-cap investors thrive on. As such, we see just as much reason to invest in decent Japanese small-cap funds as their UK equivalents. Regarding Eastspring, we like the fact that they're a disciplined, valuation-driven team. They're up against a small but strong crop of competitors in the UK's Japan Smaller Companies sector, but they offer something different to their peers, who are mostly growth-based. We've worked with the team for more than six years now, and the results have more than justified our decision to back them and their market.”
Eastspring
Investments
Japan Smaller
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and market views together
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strategy directly from the
from four perspectives to
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“I am not familiar with the Eastspring fund but the company does a good job with large caps in the region and small caps is an interesting segment. There are many high-growth small cap companies in Japan, and although they tend to be technology companies (such as e-commerce and robotics), we prefer to view them in a thematic way in terms of the aging population or other demographics. In general, earnings growth is good for this sector. Small Japanese companies had a hard time in 2016 and we are currently seeing a rebound.”
StJohn Gardner_ managing director, Investment Management_ Arbuthnot Latham
Strategy
inception date
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Source: Eastspring Investments
As of 31 December 2017
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Paris Jordan_ analyst_Sanlam FOUR
Damian Barry_investment manager_ 7IM
Simon Evan-Cook_ Premier Funds
Eastspring Investments Japan Smaller Companies Performance
Source: Eastspring Investments
Data from 31 Mar ’08 - 31 Dec ‘17
“The UK equity portfolio is based on the Chris White-managed Premier Income Fund that is currently expected to generate a yield of 4% to 4.5%.”
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Review By Gary Corcoran
Chris White and Geoff Kirk joined forces in October 2017 to co-manage the Premier Optimum Income Fund. As the new fund managers, they have made changes to the way the UK equity portfolio and covered call strategy is managed, introducing an explicit target yield of 7% p.a.
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YEARS IN INDUSTRY_ 25+
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“Japanese small caps are attractive for two reasons: first, there are more than 2,000 stocks to choose from in this sector, and second very few of them are covered by the brokerage companies.”
Japan valuations are in a really good place right now. Their earnings are not priced in by the market; corporate Japan’s ROE is converging with the world; corporate governance is a rising focus in Japan; and there are ample valuation outliers to exploit.
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YEARS IN INDUSTRY_ 17
Review By Nicola Brittain
Japan valuations are in a really good place right now. Their earnings are not priced in by the market; corporate Japan’s ROE is converging with the world; corporate governance is a rising focus in Japan; and there are ample valuation outliers to exploit.
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Japan valuations are in a really good place right now. Their earnings are not priced in by the market; corporate Japan’s ROE is converging with the world; corporate governance is a rising focus in Japan; and there are ample valuation outliers to exploit.
Review By Nicola Brittain at Last Word
Review By Nicola Brittain
at Last Word
Source: Eastspring Investments
As of 31 December 2017
Eastspring Investments Japan Smaller Companies: Composite Return vs Benchmark Net (%)
Source: Eastspring Investments
As of 31 December 2017
1Y
Benchmark return (%)
Annualised figures
0
6Y
5Y
Composite return - net (%)
9Y
3Y
2Y
7Y
8Y
30
15
5
25
10
4Y
20
10Y
Source: Eastspring Investments
As of 31 December 2017
Source: Eastspring Investments
Data from 31 Mar ’08 - 31 Dec ‘17
-30
Return (p.a.)
-20
Sharpe
Eastspring Investors Japan Smaller Companies
10
Max Drawdown(%)
-10
Russell Nomura Mid Small Cap
-50
Volatility (%)
-40