Japanese Stock Market Outlook

SMAM monthly comments & views - May 2017 -

Japanese Economy

SMAM’s GDP growth forecast was upgraded by 0.1% both for FY2016 and FY2017 reflecting better than expected Jan-Mar economic readings. Exports from Japan is growing robustly led by such as electronics parts & equipment and general machinery. Industrial production continues to recover led mainly by demand from overseas.

• Order taking of public construction spending has picked up lately, which is forecast to feed through to the actual spending

with 2 to 3 months lag.

• The latest “Tankan” business survey released from BOJ in April shows improving business sentiments. DI for manufacturing

enterprises rose from 10 to 12 and that for non-manufacturing also improved from 18 to 20. Positive DI means the condition

is better than 3 months before.

Japanese Stock Markets

Heightening tension surrounding North Korea weighs on the Japanese stock market for a while and also expected to make Japanese yen volatile. On the other hand, valuation for the Japanese stock market is low and attractive both historically and against peers such as US and Europe, which should limit the downside of the stock prices.

• Companies are going to announce financial results for FY2016 in May and guidance for FY2017 is also made. Initial

guidance tends to be conservative and likely to be revised up as FY2017 progresses. Japanese stock market is expected to

return to a mild upward trend later in the year on the back of improving fundamentals.

Executive summary

1

Notes: Macro and market views are as of Apr. 14th and 18th , 2017 respectively, and subject to updates thereafter without notice

Outlook for Japanese Economy

2

3

SMAM’s GDP growth forecast was upgraded by 0.1% both for FY2016 and FY2017 reflecting better than

expected Jan-Mar economic readings.

Trump fiscal policies are expected to be delayed, however, SMAM assumes the policies to stimulate US

economy and spread positive effects to global economies including Japan.

Notes: E=SMAM forecasts. SMAM views are as of Apr. 14th , 2017 and subject to updates thereafter without notice (Source) Cabinet Office, Bank of Japan, Ministry of Economy, Trade and Industry, Ministry of Internal Affairs and Communications, SMAM forecasts

(%, YoY except Net Exports)

SMAM economic outlook for FY16-18

( YoY %)

Real GDP growth 2.6% -0.4% 1.3% 1.3% 1.2% 0.9%

Private Consumption Expenditure 2.7% -2.7% 0.5% 0.7% 0.7% 0.6%

Private Housing Investment 8.3% -9.9% 2.7% 6.1% 0.5% 1.0%

Private Capital Investment 7.0% 2.4% 0.6% 2.5% 2.4% 2.1%

Public Consumption Expenditure 1.7% 0.4% 2.0% 0.8% 1.1% 0.8%

Public Capital Investment 8.6% -2.1% -2.0% -2.6% 3.6% 0.3%

Net Exports (contrib. to GDP growth) -0.5% 0.6% 0.2% 0.6% 0.3% 0.2%

Exports 4.4% 8.8% 0.8% 2.7% 3.7% 2.3%

Imports 7.1% 4.2% -0.2% -1.0% 1.6% 1.4%

Nominal GDP 2.6% 2.1% 2.8% 1.3% 1.8% 1.6%

GDP Deflator 0.0% 2.5% 1.4% 0.1% 0.6% 0.7%

Industrial Production 3.0% -0.4% -1.4% 1.7% 3.8% 2.3%

CPI (excl. fresh food) 0.8% 0.9% -0.1% -0.2% 0.7% 0.7%

FY16E FY18EFY13 FY14 FY15 FY17E

Strong export growth leads the continuing recovery of the industrial production

Exports from Japan is growing robustly led by such as electronics parts & equipment and general machinery.

Industrial production continues to recover led mainly by demand from overseas.

4

Industrial Production(2010=100, seasonally adjusted)

85

87

89

91

93

95

97

99

101

103

105

2010

2011

2012

2013

2014

2015

2016

2017

Note: Data is monthly from Jan 2010 to Feb 2017. (Source) Ministry of Economy, Trade and Industry

(Year)

Export volume (seasonally adjusted, yen billion)

5400

5600

5800

6000

6200

6400

6600

6800

7000

2010

2011

2012

2013

2014

2015

2016

2017

Note: Data is from Jan 2010 to Feb 2017.(Source) Ministry of Finance, Bank of Japan, compiled by SMAM.

(Year)

5

Public construction spending is forecast to pick up

Order taking of public construction spending has picked up lately, which is forecast to feed through to the actual

spending with 2 to 3 months lag.

Public construction spending statistics(Monthly, seasonally adjusted, yen trillion)

0.0

0.2

0.4

0.6

0.8

1.0

1.2

1.4

1.6

1.8

2.0

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

2017

Order taking

Order taking 6M moving average

Total construction spending (public)

(Source) Cabinet Office, Ministry of Land, Infrastructure, Transport and Tourism,EAST JAPAN CONSTRUCTION SURETY CO., LTD, and compile by SMAM.

(Year)Note: Data is from Jan. 2007 to Mar. 2017

6

Japanese companies are cautiously optimistic

The latest “Tankan” business survey released from BOJ in April shows improving business sentiments. DI for

manufacturing enterprises rose from 10 to 12 and that for non-manufacturing also improved from 18 to 20.

Positive DI means the condition is better than 3 months before.

Plan for capital expenditure tends to make a cautious reading at the beginning and then revised-up later. March

2017 survey shows that companies are planning -1.3% YoY change. This is actually higher than the beginnings

of fiscal years in the past.

-6.0

-4.0

-2.0

0.0

2.0

4.0

6.0

8.0

10.0

2010 2011 2012 2013 2014 2015 2016 2017

(%)

(Fiscal year)

CAPEX plan, YoY%( BOJ Tankan business survey, all size, all industries )

Note: Plotted are plan at Mar. Jun. Sep. Dec., Mar estimate , and final result. (Source) Bank of Japan

-20

-10

0

10

20

30

1Q

2Q

3Q

4Q

1Q

2Q

3Q

4Q

1Q

2Q

3Q

4Q

1Q

2Q

3Q

4Q

1Q

2Q

3Q

4Q

1Q

2Q

3Q

4Q

1Q

2Q

3Q

4Q

1Q

2010 2011 2012 2013 2014 2015 2016 2017

BOJ Tankan business survey DI, large enterprises

Non-manufacturing

Manufacturing

(Source) Bank of Japan(Quarter/Year)

Labor shortage is getting serious

The latest BOJ Tankan survey also shows that companies are feeling it more difficult to find workers.

Unemployment rate fell to 2.8% in February 2017, which was the lowest in almost 24 years.

7

2.8

0.0

1.0

2.0

3.0

4.0

5.0

6.0

1990 1995 2000 2005 2010 2015

Unemployment rate(%)

Note: data is from Jan. 1990 to Feb 2017.(Source) Ministry of Internal Affaires and Communications

(Year)

-30

-20

-10

0

10

20

30

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

2017

Employment DI (excess - shortage)BOJ Tankan survey, all size all industry

(Fiscal year)

Note: data is from 1Q FY2004 to 1Q FY2017.(Source) Bank of Japan

Crunch time continues for Europe and the world

A crunch time continues in France experiencing a tight race for the presidency. Europe is going to face other

important political events such as election in Germany and other countries.

Heightening tension surrounding North Korea is an unpredictable risk event not only for Japanese but global

economy.

8

Schedule of key events in 2017Month Region/Country Events Notes

US The Budget Message of The President Only the outline was released. Obama care reform was withdrawn.

Convention of the Liberal Democratic Party Maximum consecutive party leadership was extended to 3 terms.

Spring wage negotiations Base pay rise is going to be lower than in 2016.

Budget for FY2017 to be approved

Action plan for changing working practice Limit the monthly overtime. Encourage people to leave office early and spend.

Netherlands General election Feared surge of right wing was avoided.

UK Notification of exiting EU What kind of a deal UK can extract from EU?

BOJ Tankan business report

BOJ perspective report

US (28th) Temporary budget for 2017 needs renewal Can President Trump & US congress work together?

Apr & May France Presidential election

June Japan Election for the Tokyo Metropolitan Assembly Crack may grow between governing coalition parties, LPD and Komeito.

UK General election

France Lower house election

July Global G20 meeting

August Germany General election

France Upper house election

Spain Referendum in Catalonia for independence

(Source) Various publications, assembled by SMAM

September

Japan

Japan

March

April

Outlook for Japanese Stock Markets

9

Stock market outlook: a series of risk events will weigh on the stock market for a while

SMAM short-term view Heightening tension surrounding North Korea weighs on the Japanese stock market for a while and also

expected to make Japanese yen volatile. On the other hand, valuation for the Japanese stock market is low and attractive both historically and against peers such as US and Europe, which should limit the downside.

Longer-term outlook (6-months and beyond) Japanese economy is solidly recovering supported by strong global economies. Public spending is forecast to

increase too. Companies are going to announce financial results for FY2016 in May and guidance for FY2017 is also made. Initial guidance tends to be conservative and likely to be revised up as FY2017 progresses. Japanese stock market is expected to return to a mild upward trend later in the year.

Note: SMAM’s projection is as of Apr. 18th,, 2017 and subject to updates without notice.

10

700

900

1100

1300

1500

1700

1900

Ja

n-1

5

Fe

b-1

5

Ma

r-1

5

Ap

r-1

5

Ma

y-1

5

Jun-1

5

Ju

l-1

5

Au

g-1

5

Se

p-1

5

Oct-

15

No

v-1

5

De

c-1

5

Jan-1

6

Fe

b-1

6

Ma

r-1

6

Ap

r-1

6

Ma

y-1

6

Ju

n-1

6

Ju

l-1

6

Au

g-1

6

Se

p-1

6

Oct-

16

No

v-1

6

De

c-1

6

Ja

n-1

7

Fe

b-1

7

Ma

r-1

7

Ap

r-1

7

Ma

y-1

7

Ju

n-1

7

Ju

l-1

7

Au

g-1

7

Se

p-1

7

Oct-

17

No

v-1

7

De

c-1

7

Ja

n-1

8

Fe

b-1

8

Ma

r-1

8

Apr-

18

Ma

y-1

8

Ju

n-1

8

TOPIX

Forecast range upside

Forecast range downside

TOPIX index forecast range by SMAM

(Source) TOPIX: Tokyo stock exchange, Forecast by SMAM

(Points)

(Month/Year)Note: Topix data is from Jan. 5th 2015 to Apr. 18th 2017.

Base scenario & Upside / Downside risks for our forecasts

Our Base Scenario is assuming the following views:

• Practical Trump trade policies are made and serious trade disputes can be avoided.

• Expansionary policies in US keep global economies on a growth path.

• Japan’s private consumption to grow mildly supported by wage growth.

• Japanese yen does not get extremely stronger beyond 100 yen against US$.

• Further fiscal stimulus will be made and extra easy monetary policy should sustain economic growth in

Japan.

• Tension in the East Asia does not ignite a war.

Upside Risks include:

• Stronger-than-expected global growth.

• Stronger-than-expected measures by the Abe government.

Downside Risks include:

• Confrontational foreign policies taken by Trump presidency shake global trades.

• Trump policies for stimulating US economy fail to pass US congress.

• Populism gains in Europe further destabilizing EU.

• Heightening geo-political tensions in Middle East & East Asia.

• Rekindled concern over emerging economies including China.

• “Moritomo scandal” makes a fatal blow to PM Abe.

11

Note: SMAM’s projection is as of Mar. 17th,, 2017 and subject to updates without notice.

12

Optimism for the global economy faded a little

12

Investors are putting money back to bonds recently, which brought government bond yields to come down.

In the backgrounds are fading optimism for US Trump policies and also heightening geopolitical tensions

surrounding North Korea and Syria.

-0.4

-0.2

0

0.2

0.4

0.6

0.8

-0.5

0

0.5

1

1.5

2

2.5

3

3.5

US 10Y (left) Germany 10Y (left) Japan 10Y (right)

10 year Government Bond Yield (%)

Note: Weekly data from Jan. 10th, 2014 to Apr. 18th, 2017

(Source) Datastream (Month/Year)

(%)

13

Stock markets in developed countries retreated in April

13

Stock markets in developed countries fell with heightening geopolitical tensions and receding expectation for

the Trump policies in stimulating global economy.

Emerging markets showed resilience so far.

70

80

90

100

110

120

130

De

c-1

5

Ja

n-1

6

Fe

b-1

6

Ma

r-1

6

Ap

r-1

6

Ma

y-1

6

Jun-1

6

Ju

l-1

6

Au

g-1

6

Se

p-1

6

Oct-

16

No

v-1

6

De

c-1

6

Ja

n-1

7

Fe

b-1

7

Ma

r-1

7

Ap

r-1

7

MSCIEM/US$

S&P500

TOPIX/US$

MSCIEurope/US$

TOPIX/Yen

US$ based performance of stock markets (Dec 2015 =100)

(Source) Datastream, MSCI and Tokyo Stock Exchange, compiled by SMAM.

Notes: Data is up to Apr. 18th 2017.

(Month/Year)

14

The latest 12M forward EPS forecast was 111, which beat previous historical record of 110 in October

2015.

13.8% EPS growth is forecast in the coming 12 months.

EPS forecasts by analysts continue to expand

97

111

13.8%

0%

10%

20%

30%

40%

50%

60%

70%

0

20

40

60

80

100

120

Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Jan-16 Jan-17

IBES EPS consensus forecast for TOPIX

Historical EPS 12M forward EPS Forecast EPS growth

Note: Weekly data from Jan. 5th 2011 to Apr. 12th 2017.

(Source) Datastream, IBES

(Points)

(Month/Year)

PER (Price Earnings Ratio) at 13x looks cheap

Japanese stock market valuation in TOPIX is in the lower side of the range between 12x and 16x after PM Abe’s

second term began.

Based on 12M forward EPS of 111, TOPIX PER is calculated at just above 13x.

PER for MSCI US index is 18x and for MSCI Europe is 15x, which makes Japanese stock market look attractive

in global comparison .

15

300

500

700

900

1,100

1,300

1,500

1,700

1,900

Oct-

07

De

c-0

7F

eb

-08

Ap

r-0

8Ju

n-0

8A

ug-0

8O

ct-

08

De

c-0

8F

eb

-09

Ap

r-0

9Ju

n-0

9A

ug-0

9O

ct-

09

De

c-0

9F

eb

-10

Ap

r-1

0Ju

n-1

0A

ug-1

0O

ct-

10

De

c-1

0F

eb

-11

Ap

r-1

1Ju

n-1

1A

ug-1

1O

ct-

11

De

c-1

1F

eb

-12

Ap

r-1

2Jun-1

2A

ug-1

2O

ct-

12

De

c-1

2F

eb

-13

Ap

r-1

3Ju

n-1

3A

ug-1

3O

ct-

13

De

c-1

3F

eb

-14

Ap

r-1

4Ju

n-1

4A

ug-1

4O

ct-

14

De

c-1

4F

eb

-15

Ap

r-1

5Ju

n-1

5A

ug-1

5O

ct-

15

De

c-1

5F

eb

-16

Apr-

16

Ju

n-1

6A

ug-1

6O

ct-

16

De

c-1

6F

eb

-17

Note: Data is weekly from Oct. 26th 2007 to Apr. 12th 2017. TOPIX was 1459.07 at the end of the period. (Source) Tokyo Stock Exchange, Datastream and IBES, compiled by SMAM

TOPIX

(Month/Year)

TOPIX and PER based on 12-month forward EPS

16x

12x

13x

14x

15x

PM Abe's 2nd term started

Foreign investors sold Japanese equities in March

Investors are sitting on the wall watching developments in East Asia and Trump policies in US.

16

500

700

900

1100

1300

1500

1700

-3,000

-2,000

-1,000

0

1,000

2,000

3,000

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Jan Feb Mar Apr May Jun July Aug Sep Oct Nov Dec Jan Feb Mar Apr

Net purchasing of Japanese equities by investor type

Foreign Trust bank Individual Inv. Trust Fund Business corp TOPIX

2015

TOPIX (points)

Bar charts (Yen billion)

(Source) Japan Exchange Group

Note: Data is for Tokyo stock exchange and Nagoya stock exchange up to Apr.7th 2017.

2016

(Month/Year)

2017

17

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demonstrate capabilities and expertise of Sumitomo Mitsui Asset Management Company, Ltd. (hereinafter “SMAM”), or to provide information on

investment strategies and opportunities. Therefore this material is not intended to offer or solicit investments, provide investment advice or service, or to be considered as disclosure documents under the Financial Instruments and Exchange Law of Japan.

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