Improving US economic data provided further confidence to equity investors globally whilst the Japanese market benefited further from ongoing signs of investors reducing their underweight positions. Rising expectations for the imminent corporate results season and strong profit forecasts for 3/11 period continue to underpin this more optimistic investor outlook, to the extent that European sovereign debt concerns were largely ignored. As previously discussed in the last few months the scale and depth of the corporate restructuring has been far more pronounced that many analysts and investors had appreciated, hence further visibility on profit margin improvements has been positively received. A further sign of improved investor interest has been the noticeable shift towards more domestic companies away from the traditional foreign blue chip exporter preference.

Going forward the outlook to our mind becomes more difficult as there is no doubt that by H2 3/11 many manufacturers will be struggling to generate further substantial earnings growth on a yoy comparison as capacity utilization rates will have recovered substantially and we suspect certain variable costs will have started to increase. To be proved wrong either the yen will have to further depreciate, perhaps less likely now that the sovereign debt issues have escalated and or selling prices will have to be raised. The likely ongoing slowdown in Chinese economic growth rates suggests product pricing will face certain headwinds. Initial analyst reaction to the first wave of corporate results highlights this earnings growth conundrum as managements are now forecasting minimal H2 growth which is dismissed as just typically conservative but we would not be as complacent.

The reason for our continued optimism towards Japan surrounds the domestic economy. A likely ongoing accommodative policy stance by the BOJ will help to induce a profits recovery, not based simply on rising exports which has been the hallmark of previous mini economic revivals over the past 20 years, that will be further improved at the corporate level from the ongoing industry consolidation. This today is not reflected in equity valuations.

The past month has thrown up certain examples of companies making significant acquisitions that have not only transformed profit growth expectations but immediately resulted in very positive equity re-ratings. This is very much at the heart of our current portfolio construction whilst we are also looking for companies that will exhibit strong profits growth to 3/12 and 3/13 as we suspect many of the more cyclical companies will have started to lose their lustre as 2010 progresses. In conclusion, the index may struggle but there are still ample investment opportunities.

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