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The Japanese equities have surged by 37% after bottoming out at 8,160 levels in November 2011. The upside in the NIKKEI index has primarily been fueled by depressed markets for decades leading to relative attractiveness and the Bank of Japan's recent decision to adopt a 2% inflation target. This article discusses the reasons for being bullish on Japanese equities for 2013 and beyond.

Looking at the recent past, investors might argue that a 37% upside in equities in a 15 month time frame is significant and the NIKKEI might not have any further upside in the foreseeable future. The chart below gives the index movement in the last 15 months.


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My first argument for a bullish stance comes from the long-term chart of the NIKKEI index given below. After peaking out in 1989 at 39,816, the index slumped and is still lower by 71% from the peak. Certainly, Japanese equities have witnessed an extended period of bear market and the bottoming out in 2011 might have marked (in all probability) the bottom of the long-term bear market.


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The recent decision by the Bank of Japan to adopt a 2% inflation target gives me further confidence that the bear market for equities is over. Further, the BOJ has also committed to achieve the target as soon as possible. The implication would be aggressive expansionary monetary policies for the medium-term. According to the Bank of Japan -

The Bank will pursue aggressive monetary easing, aiming to achieve the above-mentioned price stability target, through a virtually zero interest rate policy and purchases of financial assets, as long as the Bank judges it appropriate to continue with each policy measure respectively. With respect to the Asset Purchase Program, after completing the current purchasing method, from January 2014, the Bank will introduce a method of purchasing a certain amount of financial assets every month without setting any termination date. Particularly, for some time, following the introduction of this method, the amount of monthly purchases is specified at about 13 trillion yen, 2 trillion yen of which is JGBs. As a result of these measures, the total size of the Asset Purchase Program will be increased by about 10 trillion yen in 2014 and is expected to be maintained thereafter.

This is certainly positive for equities for the next few years as the asset purchase program only increases going forward. A weaker yen should help in boosting asset prices as well as improve the competitiveness of Japanese entities'. The charts below give the amount of the asset purchase program and the breakdown of the asset purchase program.


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From the Bank of Japan's perspective, the current action seems completely rational as the annual inflation in Japan has averaged 0.5% from 1985-2011 compared to the G7 average of 2.5%. For all the G7 countries (except Japan), asset prices have moved meaningfully higher from 1985 to 2011.


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As the chart below shows, the CPI in Japan is expected to trend higher in 2013 and 2014 in line with the policymakers' target. If this is achieved, the optimism will sustain in the markets.


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I must mention here that I am speaking from a policymaker's perspective and expansionary monetary policies will certainly not assure robust economic growth for Japan. It can assure a decline in yen coupled with an increase in asset markets. The impact of the yen decline in Japanese corporate will be seen in the foreseeable future amidst weak economic growth in China and other parts of the world. However, the impact is already evident as the China related 50 stocks soared more than the NIKKEI index in the recent past due to the yen depreciation.


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Considering these factors, Japanese equities look attractive from a medium-term perspective. The ultra-expansionary monetary policies might result in more problems in the long-term. However, for now, asset markets will get a boost.

From an investment perspective, the following ETF's can be considered for exposure to Japan -

WisdomTree Japan Hedged Equity Fund (NYSEARCA:DXJ) - WisdomTree Japan Hedged Equity Fund seeks investment results that closely correspond to the price and yield performance, before fees and expenses, of the WisdomTree Japan Hedged Equity Index. The Index and the Fund are designed to provide exposure to equity securities in Japan, while at the same time hedging exposure to fluctuations between the value of the U.S. dollar and the Japanese yen. The fund has a relatively attractive expense ratio of 0.48%.

db-X MSCI Japan Currency-Hedged Equity Fund (NYSEARCA:DBJP) - The ETF seeks investment results that correspond generally to the performance, before fees and expenses, of the MSCI Japan U.S. Dollar Hedged Index. The Index is designed to provide exposure to Japanese equity markets, while at the same time mitigating exposure to fluctuations between the value of the U.S. dollar and Japanese yen.

Source: Bullish On Japan Equities For 2013 And Beyond