By Tom Bradley
While it’s still premature to evaluate the impact that the tragedy in Japan will have on businesses and the economy, Edinburgh Partners (the manager of our Global Equity Fund) has conducted a preliminary assessment.
Before addressing specifics, EPL notes that the comparisons some commentators are making with the stock market’s reaction after the 1995 Kobe earthquake are not appropriate. In 1995, the stock market was expensive, trading at a cyclically-adjusted price-earnings multiple (P/E) of over 35x. Currently, the P/E is less than half that level and earnings growth remains strong (although it will be hampered in the near-term by the residual effects of the earthquake and tsunami).
In evaluating the potential impact on corporate earnings over their 5-year forecast horizon, the key question EPL is addressing is the extent to which production facilities have been affected. For many companies, where the plant remains intact, they’re expecting only short-term supply chain disruptions. In the case of construction and power companies, they are looking at comparatively larger and more sustained impacts.
EPL’s analysts expect that for the majority of companies in the Global Equity Fund, long-term earnings forecasts will not vary by more than 10%. In general, they feel the share price declines for these companies have been excessive and expect to see sustained appreciation when the nuclear threat abates and general sentiment improves. Once they’re able to confirm their initial findings, they’ll look to increase holdings where appropriate.
For certain construction-related companies, EPL anticipates a potential positive change of more than 10% in long-term earnings forecasts, as these companies are likely to benefit from a significant increase in public works spending. Kajima is an example of a portfolio holding that falls into this category.
The manager believes that the two principal caveats to a recovery in stock prices relate to nuclear risk and bond market risk (i.e. reconstruction financing needs will place excessive pressure on government finances). The first risk remains unclear. The current expert appraisals suggest minor contamination at a local level but until definitive statements are made by the authorities, concerns will remain.
While the second risk is also real, EPL feels that a different scenario will emerge whereby the magnitude of the disaster will stimulate national unity in the political process and we’ll see a co-ordinated reaction from the Treasury and the Bank of Japan. Early signs of this are encouraging.
At the risk of sounding pat, we encourage investors to stick to their long-term plan and avoid any knee-jerk investment decisions based on the news coming out of Japan. Our manager is on top of the situation and is making the hard decisions on your behalf.