Japanese demand builds for foreign assets

Foreign fund managers and advisers stand to benefit from the growing number of Japanese institutions seeking overseas assets, according to Cerulli Associates and Nomura Research Institute (NRI).

This marks a trend as the country’s banks increasingly shift money from Japanese government bonds (JGBs) into foreign securities. It also comes just two months after a Japanese government-appointed panel advised the country’s $1.2 trillion Government Pension Investment Fund and other large state pensions to diversify into high-yielding assets – such as private equity, infrastructure, commodities and real estate investment trusts – to help them meet liabilities.

Gradual diversification of Japanese banks’ portfolios from JGBs into overseas securities, combined with changes to pension fund governance, spell greater opportunities for foreign managers, says Yoon Ng, Asia research director at Cerulli.

For example, the sub-advisory segment in Japan offers excellent opportunities for international fund managers, particularly those focused on foreign equity or foreign real estate investment trusts, the research notes.

Sub-advised funds account for 65% of investment trust assets under management as of June 30, up from 61% in 2008, finds the research. Sub-advisory in Japan can take one of two forms – discretionary mandates, which account for ¥12.4 trillion ($212.2 billion) in AUM as of June, or funds of funds, which account for ¥15 trillion.

Foreign managers seeking to break into the Japanese market as a sub-adviser should target major investment trust companies and pension funds, says Sadayuki Horie, senior researcher at NRI.

Pension funds have started increasing their use of foreign managers, even those without a local physical presence, he adds. “It is crucial for foreign managers to ensure that these institutions are aware of where their expertise lies as they are on the lookout for distinctive asset managers from around the world.”

Japan’s pension funds represent the country’s largest institutional investor bloc, with total AUM of ¥277 trillion ($2.7 trillion) as of March 31. The research notes that, excluding pension funds, financial institutions’ securities holdings, which totalled ¥823 trillion as of March 31, were predominantly in domestic government bonds.

But Japanese financial institutions’ reliance on JGBs is waning as Abenomics – the three-pronged plan for reinvigorating the Japanese economy – takes effect and holding bonds becomes riskier. There will also be fewer JGBs available as the central bank’s quantitative easing programme snaps up more five- and 10-year issues. As a result, local institutions are turning to foreign bonds.

To secure this business, however, foreign managers must comply with the “highly idiosyncratic Japanese business processes and provide superior service to their clients”, says the research. More important to Japanese companies, however, is decent investment performance, it adds, followed by a distinctive investment philosophy and a good reputation among pension consultants.

Foreign asset managers are certainly showing interest in attracting Japanese flows, with some making the move to put a presence in Tokyo. Singapore's Fullerton Fund Management has just done so, and Dimensional Fund Advisors set up an office there last March.

Meanwhile, another opportunity highlighted by the research is the recently launched Nippon Individual Savings Account (Nisa) scheme. This allows investors to open tax-free accounts for investments and will “encourage a hitherto investment-adverse segment of the population to deposit trillions of yen every year for the next five years”, adds the report.

The Nisa scheme will be boosted as a result of the inflationary environment as interest rates rise, and also due to the rising tax on dividends and capital gains, which will increase from 10% to 20% in April. “This is good news for the asset management industry, which will be enriched by fresh inflows into the investment trust market,” the research notes.

Of investors surveyed, 32% said ‘yes’ or ‘most likely yes’ when asked if they planned to use a Nisa. If all of them did so, that would result in 31 million Nisa users, making an average five-year investment of ¥2.20 million, adding up to a total of ¥68 trillion flowing into Nisas in that time, estimates the research.