A quick look at a timely topic of interest – with a brief review of why it could matter to investors.

Chart of the Week

August 25, 2014

Japan, Inc: still looking for the "wage surprise"
GDP, CPI and Real Wages, June 2013 – June 2014

chart

Source: Bloomberg, as of 8/20/14. Past performance is no guarantee of future results. Indexes are unmanaged, and not available for direct investment. Index returns do not include fees or sales charges. This information is provided for illustrative purposes only and does not reflect the performance of an actual investment.

The Bottom Line:

  • Investors continue to pore over economic figures, seeking signs that Abenomics is improving Japan’s prospects for growth.
  • One key factor: growth in domestic consumption. To get Japan buying again, it’s clear that real (inflation-adjusted) wage growth will have to resume—something that Prime Minister Shinzo Abe had hoped would be the economic "surprise" of 2014.
  • Nonetheless, while Abenomics has seen some success since it was initiated in December 2012—like reversing deflation and sparking a stock market rally—sustained real wage growth is not yet one of them; and the sharp decline in 2Q GDP has only increased skepticism about economic policy in some circles.
  • But the second quarter GDP decline was largely a function of the surge in the first quarter, both related to this year’s consumption tax hike—and that makes progress difficult to gauge—at least temporarily.
  • The surge in 1Q GDP growth occurred because consumers made purchases of big ticket items in advance of the consumption tax hike from 5% to 8% in April – in effect, borrowing growth from the subsequent quarter.
  • Not surprisingly, consumption then fell sharply in the second quarter leaving GDP at a lower level than at the beginning of the year.
  • Meanwhile, consumer price inflation immediately spiked as the tax hike started to bite, but was otherwise stable—and inflation expectations have actually been falling in recent weeks, as the increases have been taken on board.
  • But despite the unsettled economy, Japanese equity prices as measured by Japan’s Topix Index have turned in very solid results over the past few months—fully reversing the year’s earlier declines; perhaps investors switched their focus from uncertainties about the impact of the tax hike to a new all-time high in corporate profits and continued strong growth in corporate earnings and dividends.
  • However, the jury is still out on whether this recent rebound in stock prices also contains an element of optimism about a sustained future recovery—if so, then progress on the real wage front will probably need to be visible before too long.

The Chart:

  • The chart shows the annualized quarterly growth rate of Japan’s GDP, the year over year rate of consumer price inflation and the year over year change in real wage growth over the past two years.
  • GDP growth slowed during each successive quarter of 2013. But in the first two quarters of this year, that growth was whipsawed – up 6.1%, then down -6.8% – due to the increase in the consumption tax.
  • Consumer price inflation has been positive on a year over year basis since June 2013, but the big jump recently corresponds with the tax hike—a one-time effect that will not affect the year-over-year calculations to be made in April 2015.
  • Real wage growth has been negative over the past year and the jump in inflation due to the tax hike especially hurt in the past few months, but real wage growth was less negative in June than in May or April.

Context & Perspective:

  • Abenomics is the name given to the economic policies of Japanese Prime Minister Shinzo Abe who was elected on December 16, 2012.
  • Abenomics aims to revive Japan’s economic growth with a three-pronged strategy: monetary easing, flexible fiscal policy and structural reform.
  • The first two of the "three arrows"—aggressive monetary easing and flexible fiscal policy—are credited with reversing deflation, weakening the currency, lifting corporate profits, improving sentiment about the economy and sparking a significant stock market rally in 2013.
  • The third arrow—structural reform—involves implementing a set of policies to promote private investment and productivity growth. Stronger wage growth and more domestic consumption are likely more dependent on the success of this part of the strategy, which will be more difficult to implement because it is much more complex and politically sensitive.
  • In January 2014, Abe wrote an editorial saying he was hopeful for a "wage surprise" in 2014 that would be aided by that third arrow, but also by a shared national consensus that the government, major industries, and organized labor would work together to increase wages and bonuses and enable incentives to boost productivity. Only time will tell how many of those will come to pass.

Definitions:

Abenomics: Series of policies enacted after the election of Japanese Prime Minister Shinzo Abe on December 16, 2012 aimed at stimulating Japan’s economic growth. Abenomics is a three-pronged strategy: monetary easing, flexible fiscal policy and structural reform.

Gross Domestic Product ("GDP") is an economic statistic which measures the market value of all final goods and services produced within a country in a given period of time.

Consumer Price Indexes (CPI) measure the average change in consumer prices over time in a fixed market basket of goods and services.

Tokyo Stock Exchange Index (TOPIX) is a market-capitalization-weighted index of over 1,100 stocks traded in the Japanese market.


The opinions and views expressed herein, as well as references to individual companies or securities, are not intended to be relied upon as a prediction or forecast of actual future events or performance, or a guarantee of future results, or recommendations to buy, hold or sell, or investment advice.

Past performance is not a guarantee of future results.

All investments involve risk, including possible loss of principal.

Indexes are unmanaged, and not available for direct investment. Index returns do not include fees or sales charges.

Common stocks generally provide an opportunity for more capital appreciation than fixed-income investments but are subject to greater market fluctuations.

International investments are subject to special risks including currency fluctuations, social, economic and political uncertainties, which could increase volatility. These risks are magnified in emerging markets.

Dividends represent past performance and there is no guarantee they will continue to be paid.

Unless otherwise noted the "$" (dollar sign) represents U.S. dollars.

This material is for information only and does not constitute an invitation to the public to invest in any funds, securities, strategies or other products. You should be aware that the investment opportunities described should normally be regarded as longer term investments and they may not be suitable for everyone. The value of investments and the income from them can go down as well as up and investors may not get back the amounts originally invested, and can be affected by changes in interest rates, in exchange rates, general market conditions, political, social and economic developments and other variable factors. Past performance is no guide to future returns and may not be repeated. Investment involves risks including but not limited to, possible delays in payments and loss of income or capital. Neither Legg Mason nor any of its affiliates guarantees any rate of return or the return of capital invested.

Please note that an investor cannot invest directly in an index. Forward-looking statements are subject to uncertainties that could cause actual developments and results to differ materially from the expectations expressed. This information has been prepared from sources believed reliable but the accuracy and completeness of the information cannot be guaranteed and is not a complete summary or statement of all available data. Individual securities mentioned are intended as examples of portfolio holdings and are not intended as buy or sell recommendations. Information and opinions expressed by either Legg Mason or its affiliates are current as at the date indicated, are subject to change without notice, and do not take into account the particular investment objectives, financial situation or needs of individual investors.

The opinions and views expressed herein are not intended to be relied upon as a prediction or forecast of actual future events or performance, or a guarantee of future results, or investment advice. The information in this material is confidential and proprietary and may not be used other than by the intended user. Neither Legg Mason or its affiliates or any of their officer or employee of Legg Mason accepts any liability whatsoever for any loss arising from any use of this material or its contents. This material may not be reproduced, distributed or published without prior written permission from Legg Mason. Distribution of this material may be restricted in certain jurisdictions. Any persons coming into possession of this material should seek advice for details of, and observe such restrictions (if any).

This material may have been prepared by an advisor or entity affiliated with an entity mentioned below through common control and ownership by Legg Mason, Inc.

This material is only for distribution in those countries and to those recipients listed.

All investors in the UK, professional clients and eligible counterparties in EU and EEA countries ex UK and Qualified Investors in Switzerland:
Issued and approved by Legg Mason Investments (Europe) Limited, registered office 201 Bishopsgate, London EC2M 3AB. Registered in England and Wales, Company No. 1732037. Authorized and regulated by the Financial Conduct Authority. Client Services +44 (0)207 070 7444.

All Investors in Hong Kong and Singapore:
This material is provided by Legg Mason Asset Management Hong Kong Limited in Hong Kong and Legg Mason Asset Management Singapore Pte. Limited (Registration Number (UEN): 200007942R) in Singapore

This material has not been reviewed by any regulatory authority in Hong Kong or Singapore.

Qualified domestic institutional investors in the People’s Republic of China (PRC), Distributors and existing investors in Korea and Distributors in Taiwan:

This material is provided by Legg Mason Asset Management Hong Kong Limited to eligible recipients in the PRC and Korea and by Legg Mason Investments (Taiwan) Limited (Registration Number: (98) Jin Guan Tou Gu Xin Zi Di 001; Address: Suite E, 55F, Taipei 101 Tower, 7, Xin Yi Road, Section 5, Taipei 110, Taiwan, R.O.C.; Tel: (886) 2-8722 1666) in Taiwan. Legg Mason Investments (Taiwan) Limited operates and manages its business independently.

This material has not been reviewed by any regulatory authority in the PRC, Korea or Taiwan.

All Investors in the Americas:
This material is provided by Legg Mason Investor Services LLC, a U.S. registered Broker-Dealer, which may include Legg Mason International - Americas Offshore. Legg Mason Investor Services, LLC, Member FINRA/SIPC, and all entities mentioned are subsidiaries of Legg Mason, Inc.

All Investors in Canada:
This material is provided by Legg Mason Canada Inc. Address: 220 Bay Street, 4th Floor, Toronto, ON M5J 2W4. Legg Mason Canada Inc. is affiliated with the Legg Mason companies mentioned above through common control and ownership by Legg Mason, Inc.

All Investors in Australia:
This material is issued by Legg Mason Asset Management Australia Limited (ABN 76 004 835 839, AFSL 204827) ("Legg Mason"). The contents are proprietary and confidential and intended solely for the use of Legg Mason and the clients or prospective clients to whom it has been delivered. It is not to be reproduced or distributed to any other person except to the client’s professional advisers.

FN1413113

Previous Editions

Click on a date to view that week's edition of charts.

Poll

Which Asian country will have the strongest growth in the coming year?








Poll

Which Asian country will have the strongest growth in the coming year?

Japan, as Shinzo Abe's policy initiatives take hold
(19%)
India, as Narendra Modi's new government enacts changes
(35%)
China, as Xi Jinping's reforms promote a stronger financial sector
(24%)
South Korea, as President Park Geun-hye's plan to boost growth bears fruit
(22%)



Previous month Poll

Go for growth: Where will a global recovery be strongest this year?

Europe, as countries emerge from bailouts
(43%)
US, as consumers regain optimism
(40%)
Japan, as stimulus programs begin to bear fruit
(7%)
China, as reform and pro-growth policies continue
(10%)