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Get Exposure To Japanese Equities By Purchasing Undervalued Itochu Corporation

Jan. 17, 2014 9:01 AM ET
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Seeking Alpha Analyst Since 2010

Shelley Lin is an energy analyst, holds an MBA from New York University and is a CFA charter candidate

Japan led the global equity market performance with a whopping 56% return (the Nikkei index) in 2013. So now the question in January 2014 is whether there is further upside in Japanese equity. My view is yes because I am seeing at least two major catalysts: the huge Japanese public pension funds are in the process, slowly, but surely, of shifting asset allocation from government treasuries to riskier assets, including equity, and the potential fund shift is up to 200 trillion yens (US$1.9 trillion).[1]

Additionally, the Japanese retail consumers are far from getting into their equity market. Prime Minister, Shinzo Abe, in October last year just started tax incentive that would allow anyone over twenty year of age to buy equity up to 1 million yens without paying tax on capital gains and dividends for five years. Although this appears to be a painfully slow process, Abe's determination to re-inflate domestic assets, with the lessons learned from the United States, seems to ensure asset prices' eventually upward direction. And, then, this momentum is pushing investors globally to jump on the bandwagon.

In addition to buying the Japanese equity index fund, I would recommend selecting individual Japanese quality names that appear historically under-valued and therefore have a better chance of outperforming the index. One such name is Itochu Corporation (Tokyo Stock Exchange: 8001).

Itochu Corporation is one of a handful of Japanese trading firms, Mitsubishi, Mitsui & Co., Sumitomo, and Marubeni, and just climbed to the number 3 spot last year. Japan being a resource-poor island, the business of these trading firms historically is to scour the globe for resources to be brought back to Japan to make a profit, but have overtime broadened their share of the value chains, and also broadened their markets from Japan to other countries. Additionally, these trading firms are essentially conglomerates with operating businesses in Metals and Minerals, Energy and Chemicals, Food, Machinery and Infrastructure, and Financing and Real Estate.

Itochu has been consistently growing its net book value since 2009 to its present value of 1,949 billion yen, and is currently trading at close to book and 7 times its FY 2014 plan earnings. Valuing the stock at its five-year historical multiple of 10 times would give it a target price of 1,835 yens, a 39% upside from yesterday's close. I will buy this stock at the dip.

[1] Financial Times, "Japan funds urged to drop bonds in inflation battle", November 23, 2013

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

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