Tokyo

Tokyo, the vibrant capital of Japan, is more than just a sprawling metropolis; it's one of the world's most important financial nerve centers. For investors, “Tokyo” is often shorthand for the Japanese stock market, primarily the Tokyo Stock Exchange (TSE), a behemoth in the global financial arena. For decades, the Japanese market was synonymous with the spectacular boom of the 1980s followed by the notorious “lost decades” of economic stagnation and deflation. This long winter created a unique landscape where many world-class companies traded at astonishingly low valuations, often for less than the cash on their books. However, a recent and powerful shift towards improved corporate governance and a focus on shareholder value has sparked renewed interest, turning Japan from a potential value trap into what many, including Warren Buffett, consider a treasure trove for discerning value investors.

The Tokyo Stock Exchange (TSE) is the heart of Japan's financial market. In 2013, it merged with the Osaka Securities Exchange to form the Japan Exchange Group (JPX), creating one of the largest exchange groups globally by market capitalization. When you hear news about the “Tokyo market,” reports typically cite one of two main indices:

• The Nikkei 225: Often called the “Dow Jones of Japan,” the Nikkei 225 is a price-weighted average of 225 top-tier companies. This means that companies with higher stock prices have a bigger impact on the index's movement, regardless of the company's actual size. It’s a famous but sometimes misleading snapshot of the market.
• The TOPIX: The Tokyo Stock Price Index, or TOPIX, is a market-cap-weighted index that includes all domestic companies listed on the TSE's Prime Market. Because it weights companies by their total market value, it provides a much broader and more accurate representation of the entire Japanese stock market. For a serious investor, the TOPIX is generally the superior benchmark.

For years, Japan was a frustrating market for value investors. You could find hundreds of companies trading for less than their book value, yet their stock prices went nowhere. This was largely due to a corporate culture that prioritized stability and stakeholders like employees and banks over shareholders. However, this is changing dramatically.

The biggest story in Tokyo for investors is the corporate governance revolution. Spurred on by the government and the TSE itself, a powerful movement is underway to force companies to become more efficient and shareholder-friendly. Key developments include:

• Pressure from the Exchange: The TSE has explicitly called on companies trading below a 1.0x Price-to-Book Ratio (P/B Ratio) to devise plans to improve their valuation and boost their Return on Equity (ROE). This has put management teams on notice.
• Unwinding Cross-Shareholdings: The practice of Japanese companies owning large stakes in each other (cross-shareholdings) is slowly being dismantled. This system created cozy, inefficient relationships and is now being replaced with a focus on core business operations and returning capital to shareholders.
• Shareholder Activism: Both foreign and domestic funds are becoming more vocal, demanding share buybacks, increased dividends, and better capital allocation.

This shift is the catalyst that value investors dream of. It's an external force compelling undervalued companies to unlock the value trapped on their balance sheets.

In 2020, Warren Buffett's Berkshire Hathaway made a multi-billion dollar investment in five of Japan's largest trading houses, known as sogo shosha. Buffett saw high-quality, diversified businesses with strong cash flow, trading at dirt-cheap prices. But crucially, he also saw the turning tide of corporate governance as the trigger that would finally reward shareholders. This move served as a massive vote of confidence in the Japanese value story.

Thinking of following Buffett into Japan? Here’s what to keep in mind.

When you invest in a foreign market, you face currency risk. Your investment will be in Japanese Yen (JPY). If the yen weakens against your home currency (e.g., the US Dollar or Euro), your investment returns will decrease when you convert them back. Conversely, a strengthening yen can boost your returns. Always be aware of the currency's trend.

For most ordinary investors, the easiest ways to invest in the Tokyo market are:

• ETFs: Exchange-Traded Funds (ETFs) like the iShares MSCI Japan ETF (EWJ) or the WisdomTree Japan Hedged Equity Fund (DXJ) offer broad exposure to the market. The latter attempts to “hedge” away the currency risk.
• ADRs: Some large Japanese companies, like Toyota and Sony, are listed on US exchanges as American Depositary Receipts (ADRs), making them easy to buy and sell.

The new focus on governance is lifting many boats, but it doesn't make every cheap Japanese stock a buy. The principles of value investing still apply. You must research individual companies, understand their balance sheets, and assess whether management is genuinely committed to improving shareholder returns or just paying lip service to the new trend. The opportunity in Tokyo is immense, but as always, diligence is the key to success.