'A paradise for growth investors': A Baillie Gifford fund manager overseeing almost $2 billion explains why investors are underestimating Japanese stocks — and shares his 3-part strategy for picking winners

  • Warren Buffett's investment in Japanese trading houses reinforces misconceptions about Japan being a value country, Baillie Gifford fund manager, Praveen Kumar, said.
  • But Japan is, in fact, a "paradise for growth investors", Kumar said, having been recently nominated for the rising talent award for fund management by Morningstar for his role in Baillie Gifford's Japan Trust.
  • "People need to mentally disentangle a [Japanese] economy and a [Japanese] stock market," Kumar said. He shares his simple stock-picking strategy for finding high growth Japanese stocks.
  • Visit Business Insider's homepage for more stories.

Despite being nominated for the rising talent award for fund management this year by fund tracker Morningstar, Baillie Gifford portfolio manager Praveen Kumar doesn't have any trade secrets in his stock-picking strategy. 

It's very "simple", Kumar said.

After starting his career as a computer scientist and management consultant, Kumar switched careers into investment fund management. 

In his first year on Baillie Gifford's rotational program, he remembers being recommended to read "Common Stocks and Uncommon Profits" by Phillip Fisher.

Now 13 years on, Kumar manages  £612 million assets for the Baillie Gifford's Shin Nippon investment trust, which focuses on small Japanese companies. He also deputy manages £924 million assets for  Baillie Gifford's Japan Trust, which focuses on medium- to smaller-sized companies.

According to Morningstar, on October 7, both funds have outperformed their benchmarks in 1-year trailing returns. Baillie Gifford's Shin Nippon investment trust's net asset value per share has risen 27.57%  compared its benchmark, MSCI Japan small cap index, which has only risen 2.07%. Baillie Gifford's Japan Trust NAV per share has risen 14.25%  compared to the benchmark, TOPIX index, which has only risen 3.33%.

But despite this, investing in Japan isn't on many investors' radar. Kumar hopes to change that perception by demonstrating the long-term returns that can be driven through high-growth stocks in the country.

More attention has turned to investing in Japan within the last month. Morningstar recently reported eight of the 10 best-performing funds in September were Japanese-focused and, separately, Warren Buffett invested $6 billion in five Japanese trading houses.

However Kumar doesn't think Buffett's investment will change the perception on investing in Japanese stocks.

"Japan is very much seen as a very dull economy, mature economy, not much growth to be had," Kumar said. And it's almost seen as sort of a value kind of market. And obviously, now with Mr. Buffett's investment in a bunch of trading companies, it's sort of reinforced that idea."

In fact, Japan is the polar opposite, Kumar said. Japan is a "paradise for growth investors", with a whole layer of fast growing businesses being ignored by investors, Kumar said.

Misconceptions about investing in Japan

Kumar highlights there is a lot of evidence that the stock market and economy are not connected. He urges investors to think about this when considering whether to invest in the Japanese stock market.

"People need to mentally disentangle an economy and a stock market. So just because Japan is a very mature economy, it's GDP growth isn't exactly spectacular, probably 0.5% per annum to 1%," Kumar said. "That has nothing to do with how much money you can make in the stock market. So you still have these kinds of exceptional growth companies in Japan that you can invest in, a lot of them small caps."

As some countries in Europe as well as states in the US have seen a rise in COVID-19 cases. Some investors are starting to view Japan as a safe haven. Especially as the news flow around the US election has started to intensify and create volatility in the market.

Kumar disagrees with the concept of Japan as a safe haven.

"I always struggled with this idea of safe haven, because when the proverbial hits the fan, there are no safe havens," Kumar said. "I mean, basically, people sell everything," 

However, Kumar notes that Japan could present opportunities to those who have made money in the US market and are looking for alternative options because Japanese stocks have gone up.

"If you look at the US and chart, the S&P versus the TOPIX, it's a catalyst for more money coming into Japan in the next few years," Kumar said.

Stock Picking Strategy

To find high growth companies, there is no trade secret, Kumar said. He just looks at three core attributes.

1) Industry background

The first category Kumar looks at is the industry. He wants to see companies operating in large, preferably expanding, industries that have a large runway for growth.

"I look for companies that can grow at very fast rates, at least for five to 10 years. And by fast rate, I mean, typically 20% plus sales growth kind of range," Kumar said.

2) Business model

The business model is also important because Japan is a country with many long-standing traditions and corporate habits of not adopting technology, which has created inefficiencies and problems, Kumar said. He is looking for companies that will disrupt existing processes and exhibit an interest in problem solving.

"There is this massive opportunity, where we can just cut through all of this fat, and make the whole system a lot more efficient," Kumar said. "So just try and look for companies that sort of fit that profile, genuinely different business model, trying to solve a problem, and growing quite fast in the process."

3) Company Management

In addition to the business model, the management team behind the business are just as important.

"I place quite a lot of emphasis on looking for companies where the management is young, dynamic, entrepreneurial, and especially where companies, where management, they're not afraid of taking risks."

And a final piece of advice for investors….

To understand more about investing in Japan, Kumar recommends reading Asian Godfathers by Joe Studwell and The Japanese Company by Rodney Clark. And for general investing, he recommends reading Warren Buffet's and Jeff Bezo's shareholder letters.

"So, the broad message is keep it simple. Invest in stuff that you understand, look for consistency, a good long term record," Kumar said.

This story was originally published by Morningstar.

Source: Read Full Article