As far as birthday presents go, Warren Buffett marked his 90th birthday with an unusual one.
Sept. 18, 2020
This article was originally published on Opto - Understand What Really Moves Markets.
The billionaire chairman and CEO of Berkshire Hathaway chose to celebrate his big day by investing in Japanese trading houses for the first time in his seven-decade career.
Buffet took a 5% stake -- worth $6bn -- in Itochu [8001], Marubeni [8002], Mitsubishi [8058], Mitsui [8031] and Sumitomo [8053] on 30 August. The investment caught the eye of the financial world, especially considering its timing -- it came less than a week after Shinzo Abe announced his resignation as Japanese prime minister.
For a man who has always fervently championed US stocks, Buffett's speculation seems to have come out of the left-field at first glance. Buffett had previously made his case for US investment in May when he said at Berkshire Hathaway's annual meeting that he would "bet on America the rest of my life". Just this summer, he announced a sizable position in Bank of America [BAC].
Furthermore, Japan has seen slowing foreign direct investment inflows since 2016 -- a result of growing global disillusionment in the outgoing prime minister's famed "Abenomics". However, the country did see inflows increase 57% in 2019, according to data from Statista.
Moreover, this is a country whose businesses Buffett once blasted for their lack of earnings power and equity returns. "We're quite a bit less enthused about those stocks as being any kind of obvious bargains," he told shareholders at Berkshire Hathaway's annual meeting in 1998.
That was then, however.
Japan's big five trading houses
Look closer and the investments start to make a lot more sense. For a start, these major trading houses -- referred to as sogo shosha in Japan -- are all conglomerates, just like Berkshire Hathaway.
As a man who has always invested based on company fundamentals rather than sudden stock price fluctuations, the now-nonagenarian understands how these conglomerates work.
They offer a hugely varied spread across traditional and modern sectors, from natural resources and shipping to convenience stores and home-shopping channels, providing investors with wide-ranging exposure to businesses that are vital to the Japanese economy.
"If you go back to 2003, then there was a perception that we didn't need trading houses anymore because ecommerce would come and everyone would operate through that. The trading houses were written down as dinosaurs, but here they are: still around and making money. They tend to evolve as businesses and they actually do it well," Thanh Ha Pham, analyst at Jefferies Japan, told the Financial Times.
The trading houses' individual businesses also tie in with recent Berkshire Hathaway moves, including its decision to increase its exposure in commodities. In July, the firm bought gas transmission and storage business Dominion Energy. This is an area which all five of Buffett's new Japanese acquisitions have assets in around the world. Furthermore, the price of liquefied natural gas has more than doubled since hitting an all-time low at the end of May.
The sogo shosha, which between them import everything into a country scarce in its own natural resources, also clearly came in at the right price for someone who has been very publicly looking for his next big investment, but has deemed all his other recent potential targets overvalued.
With the exception of Itochu, all trade below book value while Mitsubishi and Sumitomo are forecasting bumper dividends, according to the Financial Times.
"I have long argued that the Japanese stock market is cheap," Joe Bauernfreund, manager of two Japan-exposed investment funds for AVI Global, told This is Money. "Buffett seems to be agreeing with me."
Jamie Rosenwald, co-founder of Asia and Japan trades at Dalton Investments, told Yahoo Finance that Buffett took advantage of "laughably low valuations", which show the "tremendous values available in Japan today".
A long-term bet
As with almost all other Berkshire Hathaway investments, Buffett has strongly hinted he's in it for the long term. This is understandable given that the Japanese economy's stock market price, GDP and inflation are all about where they were 20 years ago.
"The five major trading companies have many joint ventures throughout the world and are likely to have more," says Buffett, adding that he may increase his stakes in the Japanese trading houses over time to as much as 9.9%, according to Reuters. "I hope that in the future there may be opportunities of mutual benefit."
The investments, which broadly make Japan the firm's seventh-largest holding, just above Wells Fargo [WFC], are not a reaction to Abe's resignation or any comment on the potential winding down of Abenomics. In fact, Buffett admitted he has been gradually buying them since the start of the year.
Some are seeing the move as an indictment of the current state of the US market, which many see as overvalued. Buffett seems to be banking on the idea that inflation and a falling dollar could make international equities more attractive as economies emerge from the pandemic.
"The inflation cocktail is being mixed and Buffett is migrating his investment to where you can create value through inflation," Bill Smead, chief investment officer at Smead Capital Management, told Reuters.
Paul Lountzis, president of Lountzis Asset Management, which invests nearly a fifth of its assets in Berkshire Hathaway, agrees. "Warren is trying to expand his horizon but stick to his value investing roots at a time the US market is very expensive," he told This is Money.
As with most of Buffett's decisions, the investment world is taking note.
Despite the Nikkei 225 being down 1.4% YTD through 17 September, the Japanese benchmark is still widely considered to be undervalued compared with other markets.
"In recent years, foreign institutions have been net sellers of the market," Bauernfreund said. "Maybe Buffett will now trigger a change in international sentiment and make some foreign investors realise that many Japanese companies will play a big part in any recovery in the global economy."
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