On Thursday, Japanese prime minister Shinzo Abe was re-elected as the ruling Liberal Democratic Party (LDP) leader, winning by a very solid 70-30 margin against his one internal competitor. Abe thus has a very strong internal party mandate and will continue to be Japan’s prime minister for another three years. This bodes well for Japan’s economy in general and Japanese risk assets in particular. From here, two specific forces should combine to allow a Nikkei rally toward the 30,000 level over the next six months:
1. Pro-growth policy surprises
2. A sharp upturn in the momentum of positive earnings revisions
While the bull case for Japan equities recently has become more of a consensus view, much of the investment case rests on extremely attractive valuations—TOPIX price-to-earnings (P/E) multiples appear to be back toward the bottom 5% of the range in the past decade. The big worry: Is Japan a “value trap” with no added “positive surprises” in store to unlock the value? This is where PM Abe’s third term plays an important role as a catalyst: against very low expectations that Abe will do anything new or interesting, we expect “Team Abe” to deliver new proactive policy initiatives relatively soon, and with a sense of urgency. Specifically, we look for the following:
1. A new supplementary budget, adding as much as ¥5 trillion (about 0.9% of GDP) to domestic demand
The need for this stems from the various natural disasters that hit Japan over the past six months. About half of the funds should go toward regional reconstruction, but the other half is likely to be earmarked for nationwide disaster prevention measures. There appears to be broad-based consensus for the need of added spending within the ruling coalition, and projects are basically “shovel ready.” Expected timeline: mid-October at the latest.
2. A cabinet reshuffle, breakup of government bureaucracies and streamlining of advisory councils
