In a year in which China is zooming ahead of the pack, what’s with Warren Buffett and Japan?
Eight months ago, the “Oracle of Omaha” overcame a long-held aversion to the land of the setting sun. For years, Buffett kicked Japan’s tires – most famously in late 2011. Back then, his visit to struggling post-earthquake Fukushima – with talk of a “big investment” – excited Japanese markets to no end.
Nothing – until Covid-19-battered August 2020, when Berkshire Hathaway disclosed it piled more than US$6 billion into five giant Japanese trading houses the world had largely forgotten. It took 5% stakes in so-called “sogo shosha” names Itochu Corp, Marubeni Corp, Mitsubishi Corp, Mitsui & Co and Sumitomo Corp.
Now, Buffett may be signaling more – and bigger – bets to come. Berkshire Hathaway is planning another issuance of yen-denominated bonds, and a sizable one by all accounts.
This will be the conglomerate’s third yen deal in less than two years. The first, in 2019, raised $3.9 billion and 2020’s issuance raised $1.8 billion. The next could be “several billion dollars,” say press reports. The proceeds will be for general corporate purposes. To punters, that means increased Japan exposure. More trading house bets?
All that makes for quite a contrast with the priorities of Japan’s own investment oracle – Masayoshi Son.
The SoftBank founder’s $100 billion Vision Fund has redefined the global venture capital game by sprinkling mountains of cash on startups everywhere. Son bet big on growth in Brazil, China, India, Indonesia, South Korea, the UK, and the US, but put precious little to work in his home market.
Son’s vision, of course, was to pivot to where the growth is – and away from aging, slow growth, weak productivity Japan. China, of course, being the most obvious target. What, in this context, is the real Buffett thinking delving deeper into an economy that Japan’s top investor effectively avoids?
Stability, for one thing. Buffett, 90, spent his whole career seeking out a particular breed of investment: cash-rich, undervalued and under-appreciated old-economy companies in predictable industries that he can understand. Japan Inc’s fabled trading houses, some more than 100 years old, fit the bill.
The five sogo shosha names Buffett chose yield few surprises. They’ve long been big players in commodity markets, often dealing in energy and steel. These and other high-carbon industries have long been the bread and butter of investors of Buffett’s vintage.
Even better, they spent the 12 years since the global financial crisis getting into better shape. Generally speaking, Japan’s trading giants quietly reduced debt, sawed off unproductive businesses and diversified into machinery, financial services, food and tie-ups with apparel giants like Fast Retailing Uniqlo brand.
It’s a work in progress, which explains why Buffett sensed value in Japan’s legacy conglomerates that others don’t. Nor is Buffett’s calculation an easy sell to shareholders watching the FAANG set – Facebook, Amazon, Apple, Netflix and Google – go gangbusters.
Buffett, it appears, is playing a long game. Perhaps the best analogy is the strategy Michael Lewis detailed in his best-seller “Moneyball.” It’s a story of how Billy Beane, team manager of Oakland A’s baseball franchise, used data and unconventional thinking to win big on the cheap by creating a dream team in the aggregate. Rather than a couple of pricy, splashy stars, the A’s surprised the sport by using a gang of disparate misfits to achieve the same result.
Yet, it’s worth noting, Beane stopped short of winning the title. This raises questions, of course, about the wisdom of picking now, 2021, to push deeper into an economy the government failed to reform this last decade as China grabbed the gross domestic product title in Asia.
In 2012, then-prime minister Shinzo Abe took power roughly one year after China’s GDP had officially surpassed Japan. The hope then – one long since dashed – was that the psychological trauma of trailing China would catalyze Japan Inc to change its stripes.
Abe championed a three-prolonged game plan of aggressive monetary easing, fiscal loosening and bold structural reform. Sadly for Asia’s No 2 economy, only one of those plans ever took the field – the easy credit one.
Any gain Japan might’ve gotten from opening its fiscal wallet was squandered by a disastrous sales tax hike in late 2019. And rather than Internationalize labor markets, cut bureaucracy and empower young entrepreneurs, Tokyo mostly relied on a weaker yen and heady global growth.
The whole enterprise unraveled when Covid-19 arrived 15 months ago. Even so, Buffett felt there was enough value in Japan’s starting corporate lineup, if you will. It wasn’t SoftBank, Toyota Motor or e-commerce giant Rakuten that won his money but stalwarts that might provide steady, if boring, income streams.
In the process, Buffett betrayed a couple of his own visions for the years to come. One: inflation may be about to heat up. Trading houses often profit from the costs of oil or other inputs rising. Investor Bill Smead at Smead Capital Management speaks for many when calls it an “inflation cocktail.”
Another is the is yen is likely to rise against the dollar. His stake in Japan’s trading behemoths seems a classic hedge, but one that falls apart if the dollar rallies, cutting returns. Buffett may also believe fossil fuels won’t disappear from the scene as quickly as the conventional wisdom thinks.
Again, a classic hedge. Berkshire Hathaway holds an 8.2% stake in Chinese electric automaker BYD. Yet Japan’s trading houses are still heavily exposed to high-carbon industries. This play seems an anti-Silicon Valley bet. It arguably would make more sense if Donald Trump’s make-coal-great-again administration had won a second term. Still, Biden staying the course suggests a view that the globe might not go green as rapidly as hoped.
Buffet also appears to be taking a page from Japan’s Son cutting exposure to his home market.
For one thing, his bet on BYD is more than double the size of his 3.7% stake in General Motors. A wise move, considering that as of March 1, BYD had rallied more than 300% over the previous 12 months versus 65% for GM.
Buffett, though, famously dumped a number of corporate America icons in the first half of 2020: JP Morgan, Wells Fargo, American Airlines, Delta Air Lines, Southwest Airlines, United Airlines. This could be Buffett’s way of saying that even if the US bounced back from the pandemic, the economic energy is in Asia.
A bet on Japan’s rather diversified trading houses is a wager on Asian resilience. These companies, says Jeff Kingston, head of Asia studies at Temple University in Tokyo, has a “vast network of partnerships and ventures in the region.” So, if you’re looking to harness growth in China, Indonesia, the Philippines and Vietnam, you could do worse than piggybacking off Japan’s trading giants which have been in these economies for decades.
These companies, Kingston says, “know the lay of the land” in the region that’s done the best job navigating Covid-19. This, he adds, makes the sogo shosha set a “safe way to tap into a rising Asia at a good price.” This means Buffett may be betting less on Japanese reflation than a “wager on Asia with Japanese legal protections.”
Buffett’s next yen-bond sale has Japan Inc buzzing about where Berkshire Hathaway aims its financial firepower next. Last year, Buffett hinted might raise his Japanese trading house stakes to about 10%. Might he pile into other sectors?
Yen debt sales of the kind Berkshire Hathaway is planning are generally used to compensate Japanese investors — offering them wider spreads over local issuers — for taking on greater risk. The Bank of Japan’s negative rates regimen has local punters hungry for yield. Why bother if you’re not planning a big purchase or acquisition in Japan?
Buffett may be on to something with his Japan focus. Generally, demand for Japan’s corporate debt has been surprisingly brisk despite ultralow interest rates. Last month, a 0.9% coupon on five-year bond sales by Nagoya Railroad Co attracted almost nine times more bids than the issuance size. Ten-year government debt yields just 0.10%.
Japan’s stock market, meantime, is enjoying its own renaissance of sorts with global investors. Many, including Nikko Asset Management strategist John Vail argue the Tokyo equities are well positioned to tee off a post-Covid global recovery. In the six months to the end of January, net foreign inflows totaled more than $3 billion.
The headiest period of inflows, using Morningstar data, was between August 2015 and July 2020 when just under $23 billion flowed in. The pace, in other words, is accelerating. One reason, Vail says, is that the Federal Reserve’s easy-money stance “adds pressure on the BOJ to maintain a very dovish stance.”
The Nikkei Stock Average’s 8.2% return so far this year may reflect a Buffett-like intuition: for all Japan’s troubles – deflationary pressures, shrinking population, huge debt burden – the place seems an unlikely haven, relative-speaking, from volatility almost everywhere else. It helps, too, that one of Abe’s successes was prodding CEOs to increase return on equity.
Yet as 2021 unfolds, and Buffett versus Buffett drives debate, Japan could arguably do with more of Son’s money than Buffett’s.
As strategist Amir Anvarzadeh at Asymmetric Advisors puts it, the Nikkei’s “outperformance” relative to the broader market “symbolizes the pain endured during Japan’s two lost decades of soul searching.” The question now is whether Japan’s underlying fundamentals support further gains.
As a fourth Covid-19 wave heads Japan’s way, the much-awaited $25 billion Tokyo Olympics, already delayed by a year, is in fresh jeopardy. That would mean the loss of a big GDP jolt on which Japan has been relying.
Tokyo stocks might have greater upward potential if Abe’s successor, Prime Minister Yoshihide Suga, did more to catalyze a startup boom to keep Japan competitive with China, South Korea, Indonesia and other economies doing much better jobs of producing tech “unicorns” than Tokyo. Hence Son’s Vision Fund investing mostly outside Japan.
The BOJ is wisely looking to shift its exchange-traded fund purchases away from the Nikkei toward the broader Topix index. One rationale: many of the nation’s most innovative names aren’t in the Nikkei: Nintendo Co, industrial automation giant Keyence Corp, Apple Inc supplier Murata Manufacturing Co and electric-vehicle motor maker Nidec Corp.
Yet Japan needs more economic energy from the ground up to make the place more entrepreneurial, competitive and productive. That means cutting red tape to make it easier to start a business, creating a tax code that encourages smaller disrupters and building safety nets to incentivize risk-taking.
Suga’s government also could devise a public-private partnership mechanism to increase Japan’s venture-capital firepower. Why not ask Japan’s Buffett – Son – to participate in the process, both as advisor and financier?
For now, though, the buzz that the real Buffett is generating with his coming yen-bond issue is plenty welcome in Tokyo. At a moment when China is winning the limelight, it’s the kind of attention of which Tokyo needs more.