Pan-Asia Catalysts/Events, Quiddity Advisors

Travis Lundy

Pan-Asia Catalysts/Events

Quiddity Advisors

Last year, 55 Japanese listed companies received shareholder proposals in the June AGM season. Of course, some of the shareholder proposals made are spurious and made for a laugh, but last year <a href="https://www.nikkei.com/article/DGXMZO60929010Z20C20A6EA1000/?s=5" target="_blank" rel="noopener">23 companies received proposals from activist investors</a>, up from 16 in June 2019.  Data collated by <a href="https://www.whitecase.com/publications/alert/japans-2020-proxy-season-results-announced" target="_blank" rel="noopener">White &amp; Case</a> in summer 2020 showed that of the 22 companies which received activist proposals (their number is different than IR Japan's), 30 proposals to those 22 companies received more than 20% of votes, and just under half (14) received 30%. Various commentators noted that for the 2020 AGM season, the impact of COVID-19 and the fact that many meetings became virtual meetings, along with the fact that the lockdowns were of unknown effect but revenue and profit impact in the year ahead was deemed to be severe, many activist shareholders which would have proposed large buybacks as a use of excess cash may have decided to temper their request. Where they did not, often the response from management was that because of the significant potential impact of covid-19 mitigation/safety/response measures, large buybacks using up significant cash (just when Japanese corporates had pulled all available cash out of credit lines) was perhaps not wise. Importantly, no measure among the activists shareholder measures last year gained 50% of the vote on that agenda item let alone two-thirds needed to achieve a change in the Articles of Incorporation. Such wins remain rare. However, as White &amp; Case points out, an item which <a href="https://www.smartkarma.com/entities/mizuho-financial-group-inc" target="_blank" data-smartkarma-citation="entities:219:1" rel="noopener">Mizuho Financial Group (8411 JP)</a> management had objected to in 2015, 2016, 2017 and was rejected (shareholder input on income allocation) but with significant support of 41%, 48%, and 43% respectively in those years was re-suggested last year by management itself where the measure received 98% approval.Sometimes these messages get through. But importantly, they are a message because shareholders send them (see <a href="https://www.smartkarma.com/insights/japan-needs-more-cowbell" target="_blank" data-smartkarma-citation="insights:41191" rel="noopener">Japan Needs More Cowbell</a> for more thoughts on the matter). The measure proposed by the activist to Mizuho was actually an individual activist named Mitsutaka YAMAGUCHI and he held 30,000 shares, giving him the right to make the proposal.*<div class="content-remarks">*The minimum criteria are that a shareholder hold 300 voting rights or 1.0% of shares outstanding for at least six months to be able to put a proposal to shareholders at an AGM. And based on a change in the Companies Act which should have gone into effect on March 1, the content for such shareholder proposals is restricted now to one of ten areas. </div>The deadline for such shareholder proposals is usually 8 weeks prior to the AGM which means in most cases for June-end AGMs, they had to be submitted by the end of April. I expect we will see a flurry of company reports of new shareholder proposals in the days ahead.This insight serves as an anchor for selected insights to follow which discuss shareholder proposals on specific companies, how to get information, and follow-up where notable, from shareholder proxy services, etc.

Last year, 55 Japanese listed companies received shareholder proposals in the June AGM season. Of course, some of the shareholder proposals made are spurious and made for a laugh, but last year 23 companies received proposals from activist investors, up from 16 in June 2019.  Data collated by White &amp; Case in summer 2020 showed that of the 22 companies which received activist proposals (their number is different than IR Japan's), 30 proposals to those 22 companies received more than 20% of votes, and just under half (14) received 30%. Various commentators noted that for the 2020 AGM season, the impact of COVID-19 and the fact that many meetings became virtual meetings, along with the fact that the lockdowns were of unknown effect but revenue and profit impact in the year ahead was deemed to be severe, many activist shareholders which would have proposed large buybacks as a use of excess cash may have decided to temper their request. Where they did not, often the response from management was that because of the significant potential impact of covid-19 mitigation/safety/response measures, large buybacks using up significant cash (just when Japanese corporates had pulled all available cash out of credit lines) was perhaps not wise. Importantly, no measure among the activists shareholder measures last year gained 50% of the vote on that agenda item let alone two-thirds needed to achieve a change in the Articles of Incorporation. Such wins remain rare. However, as White &amp; Case points out, an item which Mizuho Financial Group (8411 JP) management had objected to in 2015, 2016, 2017 and was rejected (shareholder input on income allocation) but with significant support of 41%, 48%, and 43% respectively in those years was re-suggested last year by management itself where the measure received 98% approval.Sometimes these messages get through. But importantly, they are a message because shareholders send them (see Japan Needs More Cowbell for more thoughts on the matter). The measure proposed by the activist to Mizuho was actually an individual activist named Mitsutaka YAMAGUCHI and he held 30,000 shares, giving him the right to make the proposal.**The minimum criteria are that a shareholder hold 300 voting rights or 1.0% of shares outstanding for at least six months to be able to put a proposal to shareholders at an AGM. And based on a change in the Companies Act which should have gone into effect on March 1, the content for such shareholder proposals is restricted now to one of ten areas. The deadline for such shareholder proposals is usually 8 weeks prior to the AGM which means in most cases for June-end AGMs, they had to be submitted by the end of April. I expect we will see a flurry of company reports of new shareholder proposals in the days ahead.This insight serves as an anchor for selected insights to follow which discuss shareholder proposals on specific companies, how to get information, and follow-up where notable, from shareholder proxy services, etc. 

Japan Activism:  Shareholder Proposals for the Q2 AGM Season Start Trickling In

'Quantamental' Japan Specialist, LightStream Research

Campbell Gunn

'Quantamental' Japan Specialist

ja research

ja research is an independent research platform focused exclusively on Japanese equities. Leveraging data and graphic analysis provided by Japan Analytics, we provide insights on small and medium-sized companies that have been ignored by the sell-side as well as challenging conventional wisdom on larger companies. We also offer analyst and corporate access, the latter with translation if required. 

Thematic (Sector/Industry)

<figure class="editor-figure mceNonEditable"><img src="https://static-prod.smartkarma.com/images/media/000/118/403/original/2020-02-18_08-44-22.png?1581983074" class="editor-image img-responsive" data-smartkarma-image-id="118403"></figure><figure class="editor-figure mceNonEditable"><img src="https://static-prod.smartkarma.com/images/media/000/118/404/original/2020-02-18_08-42-56.png?1581983098" class="editor-image img-responsive" data-smartkarma-image-id="118404"></figure><div class="content-caption">Source • Japan Analytics</div>THREE-YEAR LOW - With <a href="https://www.smartkarma.com/entities/bridgestone-corp" target="_blank" data-smartkarma-citation="entities:8914:1" rel="noopener">Bridgestone (5108 JP)</a>'s results and revision now added, our final tally for this season is a 196 basis point decline in our Results Sore - the lowest since March 2017.  In contrast, the Forecast/Revision Score reached a three-month high as the 470 companies with December year-ends put an optimistic gloss on their medium-term outlook. As we have noted in our recent daily roundups, a normal precondition for a cycle low is for the Forecast/Revision Score to rise above the Results Score. Forecast/Revision Score peaks and troughs usually occur one to two quarters ahead of those for the Results Score.  Covid-19's impact will likely see the 2016 'playbook' repeated next quarter with a lower Results Score and a 'sideways' Forecast/Results Score. The Results Score cycle low point will be reached with the mostly-interim results to be released in six months. <figure class="editor-figure mceNonEditable"><img src="https://static-prod.smartkarma.com/images/media/000/118/405/original/2020-02-18_09-29-28.png?1581985792" class="editor-image img-responsive" data-smartkarma-image-id="118405"></figure><div class="content-caption">Source • Japan Analytics</div>LEADING INDICATOR - By including several momentum factors into our Scoring (see below), we can provide a better indication of future business conditions. Indeed there is a 0.83 correlation between the Cabinet Office's Business Condition Leading Indicator and the Forecast/Revision Score. Reported earnings, as well as company forecasts, are lagging indicators and, as shown in Part 1 of this Insight. Both data series peaked one year after our Scores and the market peaked in early 2018. SCORING METHODOLOGY - For those new to these Insights, we briefly recap our scoring methodology below:-<ul>
<li>Results Scores are calculated using the most recent eight quarters of company data for Revenues, Operating Income and Operating Margin and, for each, measure the rate, degree and consistency of change. The Results Score has a maximum of +30 and a minimum of -30 for each period. Our data series commences from the time a particular company issues quarterly results. The sample size becomes significant from March 2005.</li>
<li>The Forecast/Revision Score is based on both Annual and Interim period company forecasts and compares changes from previous forecasts as well as against the trailing twelve-month (TTM) or previous first-half results, with annual forecasts being double-weighted. This Score also has a maximum of +30 and a minimum of -30 for each period.  For this series, our data samples start from August 2008.</li>
<li>The combined Results &amp; Revision Score (RRS) is the average of the Results Score and the Forecasts/Revision Score.</li>
<li>
All company Scores are then cap-weight-aggregated into Sector, Peer Group and Market Composite Scores for which the seventeen-year monthly and two-year daily track records are shown above. Only currently listed-companies are covered in the aggregate Scores, and the Total Market Capitalisation excludes delisted entities. REITs are not included.
<hr>
• SECTOR SCORES •
<figure class="editor-figure mceNonEditable"><img src="https://static-prod.smartkarma.com/images/media/000/118/410/original/2020-02-18_09-55-29.png?1581987489" class="editor-image img-responsive" data-smartkarma-image-id="118410"></figure><div class="content-caption">Source • Japan Analytics</div>
In the DETAIL Section below, we provide a detailed breakdown of our RRS Scoring for Sectors, Peer Groups and individual companies, highlighting this quarter's 'winners' and 'losers'. The chart above shows a  seventeen-year 'timeline' of the cap-weight-aggregated Sector RRS Scores and the ebbs and flows around the business cycles. The Metals Sector is the most volatile on the downside and has yet to 'bottom' this cycle. Technology Hardware appears to have already rebounded; however, Covid-19 suggests this Sector may relapse. On the upside, the Information Technology Sector has replaced the Internet and Telecoms Sectors as the contra-cyclical 'champion'. 
</li>
</ul>

Source • Japan AnalyticsTHREE-YEAR LOW - With Bridgestone (5108 JP)'s results and revision now added, our final tally for this season is a 196 basis point decline in our Results Sore - the lowest since March 2017.  In contrast, the Forecast/Revision Score reached a three-month high as the 470 companies with December year-ends put an optimistic gloss on their medium-term outlook. As we have noted in our recent daily roundups, a normal precondition for a cycle low is for the Forecast/Revision Score to rise above the Results Score. Forecast/Revision Score peaks and troughs usually occur one to two quarters ahead of those for the Results Score.  Covid-19's impact will likely see the 2016 'playbook' repeated next quarter with a lower Results Score and a 'sideways' Forecast/Results Score. The Results Score cycle low point will be reached with the mostly-interim results to be released in six months. Source • Japan AnalyticsLEADING INDICATOR - By including several momentum factors into our Scoring (see below), we can provide a better indication of future business conditions. Indeed there is a 0.83 correlation between the Cabinet Office's Business Condition Leading Indicator and the Forecast/Revision Score. Reported earnings, as well as company forecasts, are lagging indicators and, as shown in Part 1 of this Insight. Both data series peaked one year after our Scores and the market peaked in early 2018. SCORING METHODOLOGY - For those new to these Insights, we briefly recap our scoring methodology below:-
Results Scores are calculated using the most recent eight quarters of company data for Revenues, Operating Income and Operating Margin and, for each, measure the rate, degree and consistency of change. The Results Score has a maximum of +30 and a minimum of -30 for each period. Our data series commences from the time a particular company issues quarterly results. The sample size becomes significant from March 2005.
The Forecast/Revision Score is based on both Annual and Interim period company forecasts and compares changes from previous forecasts as well as against the trailing twelve-month (TTM) or previous first-half results, with annual forecasts being double-weighted. This Score also has a maximum of +30 and a minimum of -30 for each period.  For this series, our data samples start from August 2008.
The combined Results &amp; Revision Score (RRS) is the average of the Results Score and the Forecasts/Revision Score.

All company Scores are then cap-weight-aggregated into Sector, Peer Group and Market Composite Scores for which the seventeen-year monthly and two-year daily track records are shown above. Only currently listed-companies are covered in the aggregate Scores, and the Total Market Capitalisation excludes delisted entities. REITs are not included.

• SECTOR SCORES •
Source • Japan Analytics
In the DETAIL Section below, we provide a detailed breakdown of our RRS Scoring for Sectors, Peer Groups and individual companies, highlighting this quarter's 'winners' and 'losers'. The chart above shows a  seventeen-year 'timeline' of the cap-weight-aggregated Sector RRS Scores and the ebbs and flows around the business cycles. The Metals Sector is the most volatile on the downside and has yet to 'bottom' this cycle. Technology Hardware appears to have already rebounded; however, Covid-19 suggests this Sector may relapse. On the upside, the Information Technology Sector has replaced the Internet and Telecoms Sectors as the contra-cyclical 'champion'. 



🇯🇵 JAPAN • IT’S A WRAP! Part 2: 2020-Q1 Results & Revision Scores

Quantitative Analysis

<div class="content-caption">
<figure class="editor-figure mceNonEditable"><img src="https://static-prod.smartkarma.com/images/media/000/080/728/original/2019-03-02_20-40-55.png?1551526871" class="editor-image img-responsive" data-smartkarma-image-id="80728"></figure>Source: Japan Analytics
</div>LIQUIDITY RULES - Despite the continuous stream of negative macroeconomic news from Japan and other economies, financial liquidity trends are the strongest in over two years, and much of this 'boom' is flowing into risk assets. Large-scale repatriation of offshore funds by US companies has also helped boost the US dollar against the yen. The Market Composite responded by rising 2.3% over the last two weeks, although only by 1% in US dollar terms.WEAK MACRO - Net exports and higher inventories offset private investment and consumption during the fourth quarter, resulting in flat GDP growth year-on-year. January industrial production fell to the lowest level in 30 months, and, with the manufacturing PMI nearing 50, the prospect is for further weakness this quarter. Inventories continue to rise and, in North Asia, to levels last seen in 2005. Combined with the sharp fall in exports in Japan, Korea and Taiwan, export pricing in back in deflationary territory, putting further upward pressure on real interest rates.  Meanwhile, January retail sales saw the largest month-on-month decline in over three years as department stores saw fewer Chinese tourists over the New Year.  Equity markets are living on 'borrowed time'.  <figure class="editor-figure mceNonEditable"><img src="https://static-prod.smartkarma.com/images/media/000/080/722/original/2019-03-02_18-02-59.png?1551517390" class="editor-image img-responsive" data-smartkarma-image-id="80722"></figure><figure class="editor-figure mceNonEditable"><img src="https://static-prod.smartkarma.com/images/media/000/080/724/original/2019-03-02_18-07-56.png?1551517689" class="editor-image img-responsive" data-smartkarma-image-id="80724"></figure><figure class="editor-figure mceNonEditable"><img src="https://static-prod.smartkarma.com/images/media/000/080/729/original/2019-03-02_20-41-51.png?1551526925" class="editor-image img-responsive" data-smartkarma-image-id="80729"></figure><div class="content-caption">Source: Japan Analytics</div>HOLD FOR NOW - This bear market rally is two months old and is maturing. The Value Traded ratio is below trend again, the RSI is neutral, and the Toraku is signalling caution. We expect another month of liquidity/weak Yen-driven strength before the economic realities begin to prevail.MARKET/SECTOR STRATEGY- We continue to recommend an underweight position in Japan in global portfolios and favour undervalued domestically-orientated companies in the Information Technology, Internet, Media, Transportation, Healthcare and Telecommunications sectors. We would avoid or short the financial sectors Banks, Non-Bank Finance and Multi-Industry. We would underweight the Auto, Retail and Other Consumer Products sectors as consumer spending contracts further in the US, Europe, China and Japan. In the DETAIL section below, we will review Sector performance, company results, revisions and stock performance over the previous two weeks, as well as adding some brief comments on <a href="https://www.smartkarma.com/entities/10020" target="_blank" data-smartkarma-citation="entities:10020:1">Sakai Moving Service (9039 JP)</a>, <a href="https://www.smartkarma.com/entities/20269" target="_blank" data-smartkarma-citation="entities:20269:1">Sumitomo Chemical (4005 JP)</a>, <a href="https://www.smartkarma.com/entities/8431" target="_blank" data-smartkarma-citation="entities:8431:1">Parco (8251 JP)</a>, <a href="https://www.smartkarma.com/entities/4489" target="_blank" data-smartkarma-citation="entities:4489:1">Chugai Pharmaceutical (4519 JP)</a>, <a href="https://www.smartkarma.com/entities/14674" target="_blank" data-smartkarma-citation="entities:14674:1">Nichias (5393 JP)</a>, <a href="https://www.smartkarma.com/entities/27043" target="_blank" data-smartkarma-citation="entities:27043:1">Raksul (4384 JP)</a>, <a href="https://www.smartkarma.com/entities/10503" target="_blank" data-smartkarma-citation="entities:10503:1">Daito Trust (1878 JP)</a>, and <a href="https://www.smartkarma.com/entities/14502" target="_blank" data-smartkarma-citation="entities:14502:1">Benefit One (2412 JP)</a>.


Source: Japan Analytics
LIQUIDITY RULES - Despite the continuous stream of negative macroeconomic news from Japan and other economies, financial liquidity trends are the strongest in over two years, and much of this 'boom' is flowing into risk assets. Large-scale repatriation of offshore funds by US companies has also helped boost the US dollar against the yen. The Market Composite responded by rising 2.3% over the last two weeks, although only by 1% in US dollar terms.WEAK MACRO - Net exports and higher inventories offset private investment and consumption during the fourth quarter, resulting in flat GDP growth year-on-year. January industrial production fell to the lowest level in 30 months, and, with the manufacturing PMI nearing 50, the prospect is for further weakness this quarter. Inventories continue to rise and, in North Asia, to levels last seen in 2005. Combined with the sharp fall in exports in Japan, Korea and Taiwan, export pricing in back in deflationary territory, putting further upward pressure on real interest rates.  Meanwhile, January retail sales saw the largest month-on-month decline in over three years as department stores saw fewer Chinese tourists over the New Year.  Equity markets are living on 'borrowed time'.  Source: Japan AnalyticsHOLD FOR NOW - This bear market rally is two months old and is maturing. The Value Traded ratio is below trend again, the RSI is neutral, and the Toraku is signalling caution. We expect another month of liquidity/weak Yen-driven strength before the economic realities begin to prevail.MARKET/SECTOR STRATEGY- We continue to recommend an underweight position in Japan in global portfolios and favour undervalued domestically-orientated companies in the Information Technology, Internet, Media, Transportation, Healthcare and Telecommunications sectors. We would avoid or short the financial sectors Banks, Non-Bank Finance and Multi-Industry. We would underweight the Auto, Retail and Other Consumer Products sectors as consumer spending contracts further in the US, Europe, China and Japan. In the DETAIL section below, we will review Sector performance, company results, revisions and stock performance over the previous two weeks, as well as adding some brief comments on Sakai Moving Service (9039 JP), Sumitomo Chemical (4005 JP), Parco (8251 JP), Chugai Pharmaceutical (4519 JP), Nichias (5393 JP), Raksul (4384 JP), Daito Trust (1878 JP), and Benefit One (2412 JP).   

🇯🇵 Japan • Fortnightly Update - Liquidity Rules

Doing bespoke work since 2002....., Custom Products Group

Patrick Hansen

Doing bespoke work since 2002.....

Custom Products Group

Custom Products was started 14 years ago at Lehman Brothers by current co-founder Patrick Hansen, CFA. After 3 years at Lehman, Patrick moved the team to Macquarie Securities where Simon Rigney (co-founder) joined. 3 years ago we took Custom Products independent. 

Our core strength can be summed up three words. 1- Customization - we have very little off the shelf products and most work is done on a one on one bespoke basis. 2- Speed - We pride ourselves in our ability to get requests back to the client very quickly. 3- Confidentiality - We do not redistribute. There is no grace period where we wait a week and then mass blast. Any request stops with that client.

We screened for small-cap names that have had good growth and a high ROE, but a very small Institutional Investor presence. We also limited the screen to names with greater than 2 million USD daily average value traded, so most can invest in them. <a href="https://www.smartkarma.com/entities/7989" target="_blank" data-smartkarma-citation="entities:7989:1">Jac Recruitment Co Ltd (2124 JP)</a> had a 34% ROE, it has a 2.7% dividend yield and grew Sales by 16% last year. <a href="https://www.smartkarma.com/entities/17685" target="_blank" data-smartkarma-citation="entities:17685:1">Trust Tech Inc (2154 JP)</a> is another one with a high dividend yield at 2%, a 32% ROE and 23% 5-year compound Sales growth.<h2>Screen Criteria</h2><ol><li>…</li></ol>

We screened for small-cap names that have had good growth and a high ROE, but a very small Institutional Investor presence. We also limited the screen to names with greater than 2 million USD daily average value traded, so most can invest in them. Jac Recruitment Co Ltd (2124 JP) had a 34% ROE, it has a 2.7% dividend yield and grew Sales by 16% last year. Trust Tech Inc (2154 JP) is another one with a high dividend yield at 2%, a 32% ROE and 23% 5-year compound Sales growth.Screen Criteria…

Small-Cap Quality and Growth Names with Little Institutional Investor Presence....

Event-Driven

The JPX-Nikkei 400 Index was <a href="https://indexes.nikkei.co.jp/en/nkave/archives/news/20130514E_1.pdf" target="_blank">announced</a> in mid 2013 as an effort between the JPX and Nikkei (with the Nikkei newspaper and others suggesting significant input from the GPIF) to create an index with the "goal of promoting Japanese companies with high investment appeal at home and abroad."<blockquote>Constituent selection and calculation rules will be developed using a holistic corporate analysis approach, including a focus on efficient capital usage and sustainable corporate value creation as well as qualitative elements that meet the standards of global investors.</blockquote>That was cute. When they announced the index at the end of July, they said...<blockquote>We have high hopes that the new index will contribute to improved capital efficiency and corporate value, and promote innovation of the listed companies. In addition, by serving as a new investment benchmark for domestic and overseas investors, we expect the new index to stimulate the qualitative improvement and revitalization of the Japanese stock market.</blockquote>In early November 2013, the JPX announced the <a href="https://indexes.nikkei.co.jp/en/nkave/archives/news/20131106E_4.pdf" target="_blank">guidelines</a> and methodology of the index.<h2>It's A Pretty Awful Index</h2><ul><li>My first thought back then, unchanged until now, is that this index was designed to fail. The construction methodology suggested a significant number of changes every year, and was designed to kick out companies after a bad year or two, when the stock price was low, then let them back in a couple of years later after results had rebounded.</li><li>The index had an inherent ability to sell low and buy high. Any appeal to the underlying selection criteria which included some governance measures (and the arithmetic average ROE is higher), and the benefit of capping index weights at a very low level (1.5%) allowing for a weighting methodology closer to arithmetic rather than pure market-cap weighted was offset by the ability of astute traders to estimate the likely inclusion basket long in advance.  <ul><li>Index construction starts with selecting a universe of the highest liquidity stocks among the top 1200 market caps. It selects 1000 stocks. Then it ranks those 1000 stocks by ROE, by Operating Profit, and by Market Cap. 40% of the score is 3yr average ROE rank. 40% is 3yr total OP rank. 20% is MarketCap rank.</li><li>There is an alternate set of criteria designed to promote "good features". A company gets a qualitative score added if it adopts IFRS, if it releases earnings information in English, and if one-third of directors are independent (with a minimum of 3 directors). But this set of criteria is designed to only change about 10 names in and out of the index (i.e. 2.5% of 400 members).</li><li>All of these "qualitative" measures are likely to be characteristics of larger companies, so it in effect rewards companies which are in the area of say a 301-600 rank according to market cap and a 401-800 rank in 3-year average ROE and 3-year total OP - companies on the bubble of not being selected. THOSE companies, if they really desire, can get themselves higher up the ranking by changing director policy, adopting IFRS, and/or releasing earnings in English. All of that costs, mentally if not much practically. Those who do not do it already who decide to do it to become an index constituent are perhaps should think twice. Investors to whom that extra effort for index constituency appeals would be advised to think twice too. They only get in because they don't meet the other measures.</li></ul></li></ul><h2>But It Is An Index, And It Rebalances, So We Look At It</h2>Today after the close, the JPX <a href="https://indexes.nikkei.co.jp/en/nkave/archives/news/20170807E_1.pdf" target="_blank">announced</a> the annual rebalance results of the JPNK400 Index. 31 names will be added and 28 removed. Total one-way turnover to rebalance this year is 5.0% (last year 4.5%, 2015 was 5.9%, and 2014 was 6.2%) using price data at the end of July. <figure class="editor-figure mceNonEditable"><img src="https://static-prod.smartkarma.com/images/media/000/031/184/original/20170807_JPNK400_Changes.png?1502120257" class="editor-image img-responsive" data-smartkarma-image-id="31184"></figure><hr>Below the fold, I dig into some of the interesting characteristics of the JPNK400 rebalance, how much tracks the index in terms of hard trackers, and we look at liquidity impact on the trade.

The JPX-Nikkei 400 Index was announced in mid 2013 as an effort between the JPX and Nikkei (with the Nikkei newspaper and others suggesting significant input from the GPIF) to create an index with the "goal of promoting Japanese companies with high investment appeal at home and abroad."Constituent selection and calculation rules will be developed using a holistic corporate analysis approach, including a focus on efficient capital usage and sustainable corporate value creation as well as qualitative elements that meet the standards of global investors.That was cute. When they announced the index at the end of July, they said...We have high hopes that the new index will contribute to improved capital efficiency and corporate value, and promote innovation of the listed companies. In addition, by serving as a new investment benchmark for domestic and overseas investors, we expect the new index to stimulate the qualitative improvement and revitalization of the Japanese stock market.In early November 2013, the JPX announced the guidelines and methodology of the index.It's A Pretty Awful IndexMy first thought back then, unchanged until now, is that this index was designed to fail. The construction methodology suggested a significant number of changes every year, and was designed to kick out companies after a bad year or two, when the stock price was low, then let them back in a couple of years later after results had rebounded.The index had an inherent ability to sell low and buy high. Any appeal to the underlying selection criteria which included some governance measures (and the arithmetic average ROE is higher), and the benefit of capping index weights at a very low level (1.5%) allowing for a weighting methodology closer to arithmetic rather than pure market-cap weighted was offset by the ability of astute traders to estimate the likely inclusion basket long in advance.  Index construction starts with selecting a universe of the highest liquidity stocks among the top 1200 market caps. It selects 1000 stocks. Then it ranks those 1000 stocks by ROE, by Operating Profit, and by Market Cap. 40% of the score is 3yr average ROE rank. 40% is 3yr total OP rank. 20% is MarketCap rank.There is an alternate set of criteria designed to promote "good features". A company gets a qualitative score added if it adopts IFRS, if it releases earnings information in English, and if one-third of directors are independent (with a minimum of 3 directors). But this set of criteria is designed to only change about 10 names in and out of the index (i.e. 2.5% of 400 members).All of these "qualitative" measures are likely to be characteristics of larger companies, so it in effect rewards companies which are in the area of say a 301-600 rank according to market cap and a 401-800 rank in 3-year average ROE and 3-year total OP - companies on the bubble of not being selected. THOSE companies, if they really desire, can get themselves higher up the ranking by changing director policy, adopting IFRS, and/or releasing earnings in English. All of that costs, mentally if not much practically. Those who do not do it already who decide to do it to become an index constituent are perhaps should think twice. Investors to whom that extra effort for index constituency appeals would be advised to think twice too. They only get in because they don't meet the other measures.But It Is An Index, And It Rebalances, So We Look At ItToday after the close, the JPX announced the annual rebalance results of the JPNK400 Index. 31 names will be added and 28 removed. Total one-way turnover to rebalance this year is 5.0% (last year 4.5%, 2015 was 5.9%, and 2014 was 6.2%) using price data at the end of July. Below the fold, I dig into some of the interesting characteristics of the JPNK400 rebalance, how much tracks the index in terms of hard trackers, and we look at liquidity impact on the trade.

Japan

NS Solutions Corporation operates system consulting services and proposal of solutions.  The Company also manages operation and maintenance of engineering systems and develops software.

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NS Solutions (2327 JP)

Japan Activism: Shareholder Proposals for the Q2 AGM Season Start Trickling In

Japan AGM season starts in earnest in mid-June but the deadline for shareholder proposals is 8 weeks prior. 8 June AGM Companies so far received...

Travis Lundy

🇯🇵 JAPAN • IT’S A WRAP! Part 2: 2020-Q1 Results & Revision Scores

THREE-YEAR LOW - With Bridgestone (5108 JP)'s results and revision now added, our final tally for this season is a 196 basis point decline in our...

Campbell Gunn

🇯🇵 Japan • Fortnightly Update - Liquidity Rules

LIQUIDITY RULES - Despite the continuous stream of negative macroeconomic news from Japan and other economies, financial liquidity trends are the...

Campbell Gunn

Small-Cap Quality and Growth Names with Little Institutional Investor Presence....

We screened for small-cap names that have had good growth and a high ROE, but a very small Institutional Investor presence. We also limited the...

Custom Products Group

JPX Nikkei 400 Rebalance Announced

The JPX-Nikkei 400 Index was announced in mid 2013 as an effort between the JPX and Nikkei (with the Nikkei newspaper and others suggesting...

Travis Lundy

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