2011 All-Japan Research Team: Recovery Slowed, But Not Stopped

Before the devastating ­earthquake, tsunami and nuclear crisis shattered the country on March 11, Japan appeared to be well on the way to economic recovery. Last year the nation’s real gross domestic product grew 3.9 percent — the fastest among the Group of Seven industrialized nations — and exports increased for the first time in three years, surging 24.4 percent year-over-year.

“We are bullish on Japanese equities right now,” Jun Konomi, director of Japanese equity research at Nomura Securities Co., told Institutional Investor in mid-­February. “Emerging markets, which performed very well last year, are now in danger of inflation, and interest rates will hike eventually. Here in Japan we enjoy a combination of earnings growth and very low interest rates, with abundant money temporarily moving away from emerging markets, which should push up Japanese equities.”

Just a few weeks later, the mighty temblor — one of the most powerful ever recorded, measuring 9.0 on the Richter scale — convulsed the region and spawned a 30-foot ­tsunami that killed thousands and wiped entire communities off the map. Explosions and a partial meltdown at the quake-­damaged Fukushima Dai-­ichi Generating Station in northeastern Japan have kept the country — and the world — on edge, fearful that radiation leaks will worsen and contamination will spread.

As the country struggles to return to normalcy amid the destruction and uncertainty, equity analysts have been busy assessing the disaster’s economic impact as they provide investment insight to clients. Each year II asks money managers to weigh in with their opinions on which of these analysts do the best job of covering Japanese companies, and the winners are inducted onto the All-­Japan Research Team. Polling for this year’s survey, our 18th annual, had already concluded and the results tabulated by the time disaster struck.

BofA Merrill Lynch Global Research catapults from No. 11 to share the top spot on the 2011 All-­Japan Research Team with returning champ Nomura; the firms each capture 24 total team positions. UBS, with 18 positions (three fewer than in 2010), holds steady in third place. Daiwa Securities Group, which tied for No. 1 last year, tumbles to fourth place after losing nine positions; it wins 15 spots this year. Rounding out the top five is Citi, which holds the same rank and the same number of team positions — 13 — as it did in 2010. Results are based on responses from nearly 1,000 investment professionals at some 270 institutions that collectively manage an estimated $1 trillion in Japanese equities.

Profiles of the top-­ranked analysts in each of the survey’s 31 sectors appear in the pages that follow; profiles of analysts in second and third place, along with deeper data, can be found on our web site, ­institutionalinvestor.com. Please note: Reporting on the sector profiles was completed before the March 11 Tohoku earthquake.

BofA’s spectacular advance may seem surprising, but it’s in line with the bank’s plan to be Japan’s top foreign brokerage, according to Yohei Osade, director of Japan research. BofA is “virtually the only firm that’s been building up its business” in Japan in recent years, he notes. Last April, Osade announced that he intended to expand his research department’s coverage universe by some 13 percent, to 360 companies, by December 31. He came close: By the end of last year, BofA researchers were tracking 340 stocks, up from 316 at the time of Osade’s declaration. The firm employs 32 analysts — one more than last year — and 13 of them appear in the runner-­up position in this year’s survey. In fact, BofA more than triples its number of ­runners-up, and that helps fuel the firm’s remarkable rise.

When a place weight is assigned to each position, however, Nomura clearly outperforms all rivals (see “Weighting the Results”). The Japanese firm also increased the number of stocks its analysts cover, from 587 to 605, despite a net loss of five researchers, to 61, to BofA and other competitors. Poaching has been rampant, Konomi says, and has led to “a change in the geography of equity research in Tokyo.”

That change is evident in the strong gains made by two firms: Deutsche Securities bolts from ninth place to tie for sixth with Morgan Stanley MUFG Securities Co., which shared 11th-place honors last year with BofA.

“Global investors are taking another look at Japan,” Orlando Faulks, Deutsche’s head of ­Japanese research, told II in ­February. “Stocks look cheap in Japan right now, particularly because a large proportion of listed firms are industrials. Those firms are particularly sensitive to any increase in sales, which should cause profitability to rise ­disproportionately.”

In response to renewed investor interest, the German bank has been hiring star analysts — among them Masao Muraki, who joined the firm in September from Daiwa and is this year’s top-­ranked researcher in Insurance — and increasing coverage. Deutsche’s 23 analysts currently follow 220 stocks, and Faulks expects to add a whopping 90 more this year.

Yet another Western bank sees incredible opportunities in Japan and is repositioning itself to capture a bigger portion of that market. In May, New York–based Morgan Stanley formed two joint ventures with Tokyo’s Mitsu­bishi UFJ Financial Group: Morgan Stanley MUFG, which primarily serves global and institutional investors, and ­Mitsubishi UFJ ­Morgan Stanley Securities Co., which focuses on domestic investors (and ties for ninth place). The firms, including their equity research departments, operate independently.

Stefan Pendert, who was named head of Japan research for Morgan Stanley MUFG in November, notes that before the joint ventures, Morgan Stanley Japan employed 28 analysts; he has since increased that number by four and ramped up stock coverage from 249 companies to 284. Japan, he said in February, “continues to be a critically important market in our global equity strategy.”

Has that attitude changed since March 11? Not at all. A mere ten days after the twin natural disasters and even as the Fukushima nuclear crisis was still unfolding, Pendert’s team published a report, “Tohoku Earthquake: First Assessment,” in which each analyst was asked to assess the short- and long-term outlook for his or her sector. While noting that “it is far too early to grasp the full implications of the tragedy,” Pendert told clients to expect a “short, sharp downturn, followed by a U- or V-­shaped recovery” and reminded clients that “every dip is a dip to buy.”

Nomura’s chief strategist arrived at a similar conclusion. “Although we expect this earthquake to provide further impetus to the correction in Japanese equities that has been occurring since mid-­February, we do not envision a serious correction,” Seiichiro Iwasawa stated one week after the disaster. “We think the intraday low — Nikkei average: 8,227; Topix: 725 — on March 15 is likely to have been the bottom for Japanese stocks.”

Put another way, researchers are convinced that Japan is ready to bounce back, and investors that share their optimism can find reliable guidance through the recovery from the analysts on the 2011 All-­Japan Research Team.