By Rae Wee, Laura Matthews and Ankur Banerjee
SINGAPORE/LONDON/NEW YORK (Reuters) -Global money managers are circling back to Japan's stock and debt markets, drawn by the promises of its new reflationist government and a desire to diversify from pricier U.S. and European markets.
Flows into yen-denominated stocks and bonds have been sustained this month, fund managers said, as investors watched Japan's coalition partners wrangle and cut deals while positioning for right-winger Sanae Takaichi to become
the country's premier. Takaichi was eventually elected the country's first female prime minister on Tuesday.
Her promises of stimulative spending, tax breaks, low interest rates and investments have powered Japan's Nikkei to record highs and are spurring investors to think about diversifying some cash from Europe and a frothy-looking Nasdaq.
Takaichi's election along with "the psychological impact of having finally overcome the ‘lost decades’ of Japanese stocks, can certainly spur inflows," said Boston-based Peter Vassallo, FX portfolio manager at BNP Paribas Asset Management.
"It could dovetail with concerns about U.S. valuations and policy uncertainty to encourage some investors to reallocate away from what have become highly concentrated U.S. positions to Japan on the margin."
Financial markets have been on a tear since September as the Federal Reserve cuts interest rates, broadening a rally that had until then been concentrated in global technology and artificial intelligence giants. Wall Street's big and small indices, European and Japanese stocks, gold and bitcoin have all hit record highs recently.
Japan's allure lies in its stock market valuation. While the Nasdaq is up 19% this year and trades at 34 times current earnings, the Nikkei is up 24% and cheaper at a price-earnings (P/E) ratio of 22 and Europe's STOXX index is up 13% for the year and at a P/E of 18.
Heading into the Japanese leadership election, foreigners bought 4.36 trillion yen ($28.9 billion) worth of Japanese stocks in the two weeks through October 11, the biggest amount of purchases in consecutive weeks since at least 2005. They had been selling for three weeks prior to that.
But money managers expect the rotation from other markets into Japan to be measured and selective.
The biggest risk to the "Takaichi trade" as it is known is that investors do not yet understand the dynamics between the ruling Liberal Democratic Party and its new coalition partner Ishin, nor are they familiar with the new finance minister, Satsuki Katayama.
While ideologically aligned, Ishin advocates a small government and Takaichi has already begun cutting back on her promises of higher spending to revive the economy and support households squeezed by inflation.
TRUMP OR TRUSS
James Malcolm, a Japan market analyst at financial advisor JB Drax Honore in London, has been inundated with calls from hedge funds and real-money investors since the Japanese election.
Money managers who initially worried that conflicting agendas of the coalition partners might mean policy flip-flops, like those that cut short UK Prime Minister Liz Truss' leadership to just 45 days in 2022, now say Takaichi's latest nationalist comments and machinations are also quite like those of U.S. President Donald Trump.
"There is a bit of the Trump trade there, there's going to be a lot more stimulus," Malcolm said. "But she has less political latitude, no AI boom and a submerging economy instead to steer."
"In the short term, yes, people will look at it as a good thing, and they will look at it as a bad thing when interest rates start to rise more quickly or when the currency weakens."
The weakening yen has become the sticking point in investment decisions. In the rates markets, the "Takaichi trade" has been to sell both the yen and longer-term Japanese government bonds (JGBs) for fear of low rates and more stimulus in an economy with one of the highest debt burdens in the developed world.
At multi-month lows and down nearly 4% this month, a weak yen helps Japan's export-led economy but is anathema to foreign investors.
Nigel Foo, head of Asian fixed income at First Sentier Investors, believes the Bank of Japan will keep raising rates, despite the political pressure not to, and he is bullish on JGBs.
"We are always the type who will buy more when everyone else is panicking, because that's when you see value," said Foo.
"Especially when you look at the valuation compared to bunds, it's looking very attractive. And also another thing that could be on our side is, if the distrust towards the U.S. government is to continue, I can imagine more Japanese money will come back to their home turf."
Van Luu, global head of solutions strategy for fixed income and foreign exchange for Russell Investments in London, also thinks Japanese money invested in Treasuries will move home.
"Repatriation of Japanese investments from the U.S. seems the most likely source of reallocations at the time," Luu said.
($1 = 150.7800 yen)
(Reporting by Rae Wee and Ankur Banerjee in Singapore and Laura Matthews in New YorkWriting by Vidya Ranganathan; Editing by Hugh Lawson)
