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Jubak's Journal Recent articles: • 5 ways to tap into onshore drilling boom, 12/7/2005 • 5 more ways to invest for income, 12/6/2005 • My plan to rescue General Motors, 12/1/2005 More... | Jubak's Journal The U.S. -- not Japan -- is the place to invest For now, that is. Japan's stock market may be rebounding, but the nation has some huge financial and economic problems to sort out. By Jim Jubak So who's right? The U.S. investors and Wall Street advisers who are recommending Japan, or the Japanese institutional and individual investors who are buying U.S. stocks and bonds as fast as they can? So far this year, U.S. and other overseas investors have put $75 billion into the stocks that make up the Nikkei 225 ($N225), Japan's version of the Dow Jones Industrial Average ($INDU). Wall Street investment houses have recently advised their customers to put more money to work in Japanese stocks, and a Merrill Lynch survey of managers of global mutual funds revealed Japan as their favorite market. As a group, they are overweight Japan and underweight U.S. financial markets. At the same time, however, Japan's institutional investors have been dumping Japanese equities. In October, for example, the country's financial institutions sold $9.2 billion in Japanese stock. And in September 2005, according to the U.S. Treasury Department, foreign investors bought a record net $102 billion of U.S. stocks and bonds. (The data for October is due out on Dec. 15.)
A huge chunk of that overseas money is coming from Japanese investors who are on pace to easily surpass last year's net $174 billion purchase of U.S. stocks and bonds. Right now, it looks like Japanese investments in U.S. assets in 2005 will be at the highest level since 1989, when the U.S. government started keeping track. That's what it looks like, and it all depends on what happens to the U.S. dollar and the Japanese yen in 2006. Related news and commentary on MSN Money
As long as the dollar stays strong against the yen -- or, even better, keeps climbing -- Japanese investors pumping money into U.S. financial assets will make out like bandits. But if the dollar starts to tank against the yen, those investors will lose their shirts. And U.S. investors who bought Japanese stocks will be swimming in profits. Today, it looks like the best arguments favor a weaker yen and a stronger dollar into the middle of 2006. Why they're coming to America And it sure is easy to understand why Japanese investors have poured money into U.S. stocks and bonds.
And that kind of profit, of course, encourages more investors to bet on the dollar against the yen. Dollar beats the yen That's looking backward, of course. But I think these trends are likely to continue into 2006. Here's why:
The dollar will stay strong Frankly, I don't find these scenarios very convincing. I think we've been sentenced to a bout of a surprisingly strong dollar against the yen that will last longer than I'd ever have suspected at the beginning of 2005. That's because exchange rates aren't set by the absolute quality of a country's financial and economic condition, but by relative conditions. And, relatively, the United States is in better shape than Japan. How can that be? If you look at the size of consumer debt in the United States or the size of the public debt, the picture is pretty grim. U.S. public debt -- that's the accumulated debt, not the annual budget deficit -- was equal to 68% of our total GDP at the end of 2004. But the U.S. government is a model of fiscal prudence compared to Japan. At the end of June, Japan's public debt was a record 796 trillion yen, equal to 160% of gross domestic product. Thats a huge problem now, and it will get worse with every passing year, since Japan is one of the world's oldest and most rapidly aging societies. The Japanese budget mess is so deep that the government, if it is courageous and prudent, will have to raise taxes sometime in 2006, even if that does threaten to slow the Japanese recovery. Investors won't know if the Koizumi government will try to push through a tax increase until later in 2006. It's almost a given that the government won't act before the end of the Japanese fiscal year in March. But Prime Minister Koizumi, who ran as a reformer of Japan's political as well as financial system, has a limited window of opportunity since he has said he will not run for re-election. Still money to be made on Japan In all of this, it's important for investors to keep their eyes on the goal. Investors don't make profits by betting on the direction of Japanese fiscal policy or the final GDP number but on growth in corporate profits. And it's quite possible -- indeed likely in Japan's export economy -- that profits will grow even if the economic and fiscal problems are so serious that they push the yen down some more. Remember that for Japan's huge export sector, a weak yen and a strong dollar mean increased sales in the big U.S. market for Japanese cars, home-entertainment electronics and digital cameras. Right now, valuations in the Japanese stock market are still relatively modest -- even though the Nikkei 225, at about 15,400, is up more than 30% so far in 2005. But 15,400 is still way, way short of the 38,915 the index hit in December 1989. If you can believe the numbers -- always a good question when you're dealing with corporate financial reporting in Japan -- the market now trades at a price-to-earnings ratio of 18, according to Merrill Lynch. That price-to-earnings ratio may look high -- after all, the Standard & Poor's 500 ($INX), one of the benchmark U.S. indexes, trades at just 19 times trailing 12-month earnings -- but the Japanese earnings recovery has just started to kick in. The export sector, ramped up by the weak yen, is going first. Toyota Motor In September, I began to add Japanese stocks to Jubak's Picks with an initial buy of Mitsubishi UFJ Financial Group At least for the first half of 2006. The more I look at the year ahead, the more I'm convinced that investors will hit an inflection point in the economy and in the stock market around the middle of the year. I don't know which way things will break at that point. In my next column, however, I'll try to outline the five make-or-break "what-ifs" for 2006. Updates Sell Transocean Transocean is near my target price for March 2006 and I'm going to sell these shares and move the money into a drilling stock with more upside potential for the next six months. The deep water drilling story -- heavy demand from oil exploration and production companies, plus no spare capacity, equals huge increases in day rates -- is now well known in the market and has driven shares of Transocean, the dominant deep water name, up almost 40% since I added them to Jubak's Picks on April 26, 2005. Although I think we're a long way from the top of this drilling cycle -- 2008 is my guess right now -- I think land-based drilling companies have appreciation potential right now because that story is just working its way into the market. The funds from this sell go into my buy of Nabors Industries Buy Nabors Industries The U.S. onshore drilling market is about to see its first growth cycle in more than 25 years with the focus on drilling for natural gas in the Rocky Mountain states and the Barnett Shale formation in Texas. You can see the proof of this shift in the 24% increase in weekly drilling permit numbers in the United States from October 2004 to October 2005. Nabors Industries is the king of land-based rigs in the U.S. and Canada. The company owns almost 600 land-based drilling rigs and another 900 land-based work-over and servicing rigs. In the third quarter, Nabors Industries saw a 10% increase in the average number of its drilling rigs at work in the lower 48 states and Canada and a 43% increase in revenue per rig. With the oil industry clamoring to drill in the U.S. again, Nabors Industries has announced that it will continue to put more of its idle rigs to work at a rate of about five to seven a month, and that it will build 100 new rigs by 2007. Within days of announcing the program to build new rigs, Nabors Industries reported customer commitments for 51 rigs that won't be ready for market until 2007. This sure doesn't look like the kind of rig building on spec that has crushed day rates in other shorter rallies. I'm adding Nabors Industries to Jubak's Picks with an October 2006 target price of $94 a share. (Full disclosure: I will buy shares of Nabors Industries for my personal portfolio three days after this column is posted.) New developments on past columns 4 stocks with real value in real estate As of Dec. 9, I'm raising my target price on Rayonier Editor's Note: A new Jubaks Journal is posted every Tuesday, Wednesday and Friday. Please note that Jubak's Picks recommendations are for a 12-to-18 month time horizon. See Jubak's CNBC Picks for shorter six month recommendations. For suggestions to help navigate the treacherous interest-rate environment see Jim's new portfolio Dividend stocks for income investors. For picks with a truly long-term perspective see Jubak's 50 best stocks in the world or Future Fantastic 50 Portfolio. E-mail Jim Jubak at jjmail@microsoft.com. At the time of publication, Jim Jubak owned or controlled shares of the following equities mentioned in this column: iShares MSCI Japan, Mitsubishi UFJ Financial Group, Rayonier and Transocean. He does not own short positions in any stock mentioned in this column. | |||||||||||||||||||||||||||||
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