Fidelity Japan 04 July 2023

Fidelity Japan Trust (LON:FJV) uses all the flexibility of the investment trust structure to maximise long-term capital growth potential. Manager Nicholas Price aims to identify companies whose growth prospects are undervalued or overlooked by the market. Nicholas is a Japanese speaker who has lived in Japan for many years, running portfolios since 2000. He personally, alongside Fidelity’s team of specialist analysts based in Tokyo, conducts hundreds of company meetings a year to root out undiscovered growth companies. The Japanese small and mid-cap space is vast and little covered by analysts, making this a good hunting ground for stockpickers.

Nicholas is index agnostic, though the portfolio has a mid-/small-cap growth tilt. Nicholas can also invest in unlisted companies, typically shortly before an expected IPO, currently representing 7% of the portfolio. The team has invested in this space for eight years and has built up a network which sees them presented with dozens of prospective unlisted companies each year. Additionally, Nicholas has run the portfolio with consistent levels of Gearing.

These factors have contributed to the trust seeing periods of strong outperformance, while it has also underperformed in falling markets (see Performance). Notably, 2022 was a tough year, as growth significantly underperformed value in a falling market, and gearing exacerbated FJV’s losses. However, 2023 has seen somewhat of a recovery, particularly in Japan, and Nicholas and the team think Japan looks set to perform well, while their portfolio is attractively valued versus history.

FJV’s shares have slipped onto a 10.6% Discount at the time of writing, wider than their own five-year average and the current Japan sector average too.

FJV offers a really powerful set of features which could deliver exceptional returns in the right circumstances – and have done so in the past. The small and mid-cap bias, the use of gearing, and investment in unlisted companies all bring risks, but they also increase the potential for alpha generation and long-term absolute returns. Last year saw everything work against the strategy, from value massively outperforming growth to small and mid-caps underperforming and the Japanese Yen even managing to underperform the out-of-favour pound sterling. We think the trust looks more attractive after this sell-off, with portfolio valuations lower and a significant share price discount opened up.

Of course, there can be no guarantee that we will not see another leg down in global equity markets this year, and that is presumably why investors are not rushing in to buy and the shares have slipped to a 10.6% discount. In our view, this is likely to be a good long-term entry point, although we acknowledge the possibility that the short term could see further weakness. In Japan, we think the balance of probabilities tilts in a more optimistic fashion than it does elsewhere. The domestic economy is seeing impetus from the late ending of COVID-related restrictions and a return of inbound tourists, while its terms of trade have improved and domestic price/wage inflation is more favourable than in many other developed countries. Perhaps more significantly, Japanese corporate governance reforms continue to gather pace, with buybacks and dividends hitting record highs and management teams open to actions that can unlock corporate value. This is a unique growth driver in Japan which looks likely to have years to run.