Japan has New York hedge fund manager Daniel Loeb to thank for its biggest stock market surge since 1988. Investors have been taking inspiration from Loeb's surprising success with the Japanese robot maker Fanuc.
When Loeb bought a stake in the notoriously opaque company earlier this year and started demanding changes, few in corporate Japan believed he would get anywhere. It's not just that Fanuc was known for its insularity; foreign activist investors had a long history of failure when dealing with corporate Japan.
So when Fanuc President Yoshiharu Inaba started heeding Loeb's demands -- inviting journalists to the company's campus near Mt. Fuji, opening a shareholder relations department and doubling the percentage of profit the company pays out to shareholders -- other foreign investors took note. They began flocking to the Nikkei stock exchange in hopes of getting at the trillions of dollars sitting on Japan's corporate balance sheets. (It's estimated that executives are hoarding cash that amounts to half the country's annual $4.9 trillion of output.)
But the stock surge doesn't represent a broader vote of confidence in Prime Minister Shinzo Abe's economic program -- nor should it. Abe has failed to carry out the bold structural reforms -- lowered trade barriers, less red tape for startups and loosened labor markets -- that he promised would enliven growth and boost corporate profits. Investors are aware that Japan's latest economic data isn't very good: Household spending is weak (down 1.3 percent in April), 340,000 people have given up on the labor market and inflation is back at zero.
But if Abe is wise, he will leverage the uptick in foreign investment to reignite his reform program. After all, Japan's new foreign investors are a demanding and vocal crowd, and their goals are broadly in alignment with Abe's. "They tend to speak out in ways that locals won't, adding to the pressure on management to change," says Jesper Koll, former head of research at JPMorgan Chase & Co. and adviser to Japan’s government. "That's something to be supported in the current environment, not silenced."
Abe has already started leading a charge for more stringent corporate governance standards. Last year, Tokyo implemented a stewardship code urging investors to shame underperforming CEOs and introduced an index of 400 Japanese companies doing a good job of providing returns on investment. Last week, Abe unveiled a code of conduct for executives along with requests that companies increase the number of outside directors.
But Chicago money manager David Herro (with $35 billion in assets) says that for all Abe's efforts, Japan remains 30 years behind its peers in how its companies are run. Corporate Japan still indulges in cross-shareholdings and permits itself male-dominated boards, and the country's timid media does little to hold it to account. "Japan has gone from zero to two," Herro told Bloomberg News last week. "It’s improving. But we need to get to eight, nine or 10." Recent scandals at Takata (deadly airbags) and Toshiba (dodgy accounting), and Sharp's ongoing angling for a government rescue when it should be shedding unprofitable businesses, are a reminder of how far Japan still needs to go.
The good news is that some companies are starting to display the behavior Abe wants, and for which Loeb has been agitating. In the past year, Japan’s companies doled out record amounts of cash to investors -- $104 billion in the 12 months ended in March. The bad news is that the sluggish pace of Abe's reforms threatens to dampen the trend.
Abe has hoped that by weakening the yen by 30 percent, he could motivate companies to share their cash with workers, boost household spending and precipitate a virtuous economic cycle. That dynamic remains as elusive as ever. But in his efforts to nudge companies to become more competitive, Abe should encourage and highlight the efforts of activist investors trying to do the same. The next time Abe visits the New York Stock Exchange, as he did in 2013, he might even consider chartering a plane to bring more market agitators back to Tokyo.
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