Mrs. Watanabe returns to India seeking emerging market yield

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Two years after India’s policymakers stared down a major capital flight threat, the country has become a hot emerging market investment destination for one of the world’s most robust sources of capital – Japanese households.

Japanese retail investors chasing higher yields and resilient assets will provide Indian corporates another source of capital at a time of when capital inflows are peaking ahead of a widely-expected U.S. interest rate rise.

Fund managers say the increased interest from Japanese investors is also a vote of confidence in the fiscal and market reforms of Prime Minister Narendra Modi, voted into office in May 2014.

Just the year before that, worries about India’s record current account deficit sent the rupee to a record low.

The reforms that have opened up India’s markets to foreigners were game changers for the so-called “Mrs. Watanabe” – Japanese retail investors driven by their country’s policy of zero interest rates to seek yield offshore.

Japanese retail investment into India through investment trusts in October was 462 billion yen ($3.76 billion), its highest level in 7 1/2 years and more than doubling the amount invested at the time Modi came to power. That’s in stark contrast to markets such as Brazil that have experienced heavy outflows from Japanese investors.

“People realised something big had happened and money flew into equity funds and so on,” Ai Fujiwara, senior fund manager at Eastspring Investments in Tokyo, said of Modis election.

“And now as India is starting to look better compared to other emerging countries, there’s a renewed focus on it.”

Japanese retail investors have pumped $1.8 billion into funds investing in Indian bonds in the first nine months of the year, compared with $489.6 million a year earlier, and now hold a total $2.3 billion of bonds, data from Thomson Reuters Lipper shows.

Japanese investors have historically favoured destinations such as Brazil and Turkey for growth. But with India now bringing inflation under control and posting among the fastest emerging markets economic growth rates, fund flow direction has shifted toward the subcontinent.

“During the recent market selloff, Indian markets were doing relatively well even as other Asian countries were badly hit. So for sales staff, it is easier to sell India,” said Tomoaki Maebashi, the head of investment trust marketing and promotion at Sumitomo Mitsui Asset Management.

In the third quarter, Japanese bond funds that invest in Brazil, Indonesia and Turkey saw a combined net outflow of $296 million, while those investing in Indian bonds saw $290 million in inflows.

Brazil, by far the most popular investment for Japanese retail investors, has been especially hit by the exits: investment trusts’ holding of Brazilian bonds have almost halved in the past year to 427 billion yen ($3.52 billion).

ONCE BITTEN…

The last time Japanese investors piled into India, it ended badly. After investing 612 billion yen ($4.97 billion) by the end of 2007, many suffered heavy losses after Indian shares dropped about 73 percent in yen terms as the world plunged into financial crisis.

But this time, fund managers believe it will be different.

Holdings by Japanese investments trusts in Indian equities hit a five-year high of 315 billion yen ($2.56 billion) with many investors seeing India’s resilient growth profile as offering an appropriate combination of returns and safety.

India is seen as better placed to withstand any global market volatility from U.S. rate hikes thanks to hefty foreign exchange reserves of $351 billion from $296 billion at the end of 2013.

Japanese bond funds investing in India have gained on an average 12.6 percent in yen terms in the last one year, while those that invest in Brazil have lost an average 27.6 percent and Turkey an average of 15.8 percent, according to Lipper.

Meanwhile, India is expected to especially benefit from falling crude prices, given the country imports around two-thirds of its energy requirements.

“I own Indian shares because they should benefit from the fall in oil prices,” said a 51-year-old office worker who owned Indian shares through exchange traded funds.

Foreign investors have sold a net $993.4 million in debt and equities this month but remain heavy buyers for the year, with net purchases of $13.8 billion so far this year and $42 billion last year.

Japanese fund houses are also searching for opportunities in India’s asset management sector, with Nippon Life paying $184 million to raise its ownership stake in Reliance Capital Asset Management to 49 percent from 35 percent.

“Japanese retail money is stickier, which always helps. We have expanded our sales and distribution tie-ups in the country to tap on the demand,” said the chief executive of an Indian asset management company.

($1 = 122.97 yen)

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