After years of crippling deflation, poor economic prospects and an insanely strong currency, Japan has finally won its mojo back.
And investors who dive into some of the best ETFs tracking the country’s stocks could have a lucrative couple of years ahead.
In June, Japan’s Nikkei 225 index hit its highest level since 2000. And even though Japanese stocks have cooled off a bit, stocks from the Land of the Rising Sun are still up around 17% or so this year.
That return earns Japan the distinction of being one of the better-performing developed markets, even outperforming the broad iShares MSCI ACWI Index Fund (ACWI).
Those gains have come on the back of policy and structural reforms courtesy of Japan’s prime minister, Shinzo Abe. “Abenomics,” as some would call it, are based on Abe’s “three arrows”: fiscal stimulus, monetary easing and structural reforms. Through these, Japan has managed to devalue the yen, boost economic growth and increase consumer spending. And Japan’s hot streak could continue.
Earnings for Japanese stocks continue to surpass expectations, the Bank of Japan remains accommodative in regard to monetary policy and Abe has promised to do more with his “three arrows.” But at the same time, Japanese stocks remain cheap compared to other markets, including the U.S., on both price-to-earnings and price-to-book ratios.
With Japan’s current bargain prices and outperformance potential, investors could find plenty of love about the nation.
Here are the best ETFs to do just that:
Best ETFs to Play Japan: iShares Currency Hedged MSCI Japan ETF (HEWJ)
Expense Ratio: 0.48%*
When investors buy international stocks, they do so using a two-pronged evaluation process concerning how the stock performs in its local currency, and how that currency performs relative to the dollar.
The iShares MSCI Japan ETF (EWJ) owns stocks priced in yen. However, when you place an order to buy EWJ, you are doing so in U.S. dollars. A strong dollar — like the one we have now — eats away at returns as stock gains translate from yen into U.S. dollars.
The answer: Take the dollar out of the equation.
The iShares Currency Hedged MSCI Japan ETF (HEWJ) does just that. The ETF offers exposure to large- and mid-cap Japanese stocks, mitigating the effects of differences between the value of the Japanese yen and the U.S. dollar.
The beauty of HEWJ is that unlike some hedged products that own all of the stocks in an index, plus the currency futures contracts, this iShares fund just owns the previously mentioned EWJ and the hedges. That means HEWJ saves on transaction costs, translating into lower expenses, which is why HEWJ only charges $48 annually per $10,000 invested.
*A portion of management fees have been waived through Dec. 31, 2020.
Best ETFs to Play Japan: WisdomTree Japan SmallCap Dividend (DFJ)
Expense Ratio: 0.58%
Shinzo Abe’s plans center around igniting the Japanese economy. The problem, however, is most Japanese stocks are large multinationals, like Toyota (TM), which earn more in the U.S. than in Japan. So, on the one hand, large-cap plays like the previously mentioned HEWJ aren’t really a direct bet on Japan’s fortunes.
WisdomTree Japan SmallCap Dividend (DFJ), on the other hand, is a direct play on Japanese stocks.
Up 16% year-to-date, DFJ owns 598 Japanese small caps that are likely unfamiliar to many investors. Many of DFJ’s holdings are firmly rooted in the Japanese economy, and aren’t exporting billions of dollars worth of products. That is why small-caps are a prime local way to play any nation, not just Japan.
The twist for DFJ is that it focuses on dividend-paying small caps, which provides some protection for Japan-minded investors via a 2.4% yield.
All in all, if Abe is successful in transforming Japan, then DFJ and its small-cap tilt will be one of the best ETFs for the long term.
Best ETFs to Play Japan: First Trust Japan AlphaDEX (FJP)
Expense Ratio: 0.8%
Perhaps you’re looking for a bit more “oomph” when it comes to traditionally boring Japanese stocks, but you aren’t willing to buy a triple-leveraged ETF. Well, if so, the First Trust Japan AlphaDEX Fund (FJP) is the best ETF for you.
FJP is a smart-beta fund, meaning it seeks to add additional returns beyond a traditional index. It does this by applying various screens to sift through for the best portfolio. Unlike active management, smart-beta ETFs are rule-based. After the initial screens are set, there is zero human interaction with the fund. You basically get the best of both active management and passive indexing in one fund.
In the case of FJP, it screens Japanese stocks for factors such as price appreciation, sales growth, book value, cash flows, P/E ratios and return on assets to create a portfolio of the best 100 stocks in Japan.
With that said, FJP has underperformed the EWJ over the last year. However, the proponents of smart beta will point to the fact that we’ve had a rising-tide market over the last few years, which makes it easy for broad indices to outperform as everything was going up.
But now that the market has risen, FJP could be among the best ETFs for investors scouring Japanese stocks.
As of this writing, Aaron Levitt did not hold a position in any of the aforementioned securities.