Goldman Lauds Japan Defense Shares on Abe Push: Chart of the Day

Defense-related shares in Japan beat the national benchmark and U.S. peers since Prime Minister Shinzo Abe came to power and embarked on a policy to strengthen the military and lower barriers to arms exports.

The CHART OF THE DAY tracks defense gauges for Japanese, American and European equities and counterpart geographic benchmarks normalized from Dec. 14, 2012, just before Abe led an election victory, through Aug. 18. Goldman Sachs’s new Japan defense measure of 20 companies was the biggest gainer at 72 percent, with the Topix index next at 60 percent. In each pairing, the aerospace-military group beat the broader index, which also included the Standard & Poor’s 500 and FTSE Eurotop 100.

“Since we expect the defense theme to become a long-term secular theme in the Japanese market, we see scope for improved relative performance ahead for related stocks,” Goldman Sachs analysts led by Chief Japan Equity Strategist Kathy Matsui said last week in a research note to unveil the gauge. Mitsubishi Heavy Industries Ltd., Kawasaki Heavy Industries Ltd. and Toshiba Corp. are among the component stocks.

Boosting Japan’s military capabilities has been one of the focuses of the Abe government, amid a territorial dispute with an increasingly assertive China. In 2013 Abe increased the defense budget for the first time in 11 years, and this year relaxed an effective ban on defense exports. Even with the changes, defense spending will account for less than 1 percent of gross domestic product, compared with 4 percent in the U.S. and 1.3 percent in China, according to estimates by Japan’s Ministry of Defense.

That change “should provide Japanese firms with the opportunity to jointly develop defense technologies and manufacture equipment, as well as boost defense-related exports over time,” the Goldman analysts wrote. Abe’s cabinet also passed a resolution reinterpreting the constitution to allow Japan to defend other countries.

“The challenge for investors is implementation since individual company defense exposures are relatively small” compared with U.S. and European counterparts, Goldman said in the report. About 13.5 percent of Mitsubishi Heavy’s revenue in the first half of calendar 2014 was categorized as defense/space products and services, data compiled by Bloomberg show.

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