22 February 2024
The old Oracle of Omaha has done it again, spotting an arbitrage opportunity when the Japanese stock market began to show signs of life. While this man has built his entire fortune on value, value and better value, this is the first such arbitrage situation to emerge in Japan for many years. With a mixture of improved performance and investor perceptions, Warren Buffett is now sitting on a significant return.
Even though many investors have discounted the Japanese stock market for many years due to the dire economic situation, this is still a developed market. Quite how other investors did not spot the huge arbitrage situation is surprising to say the least.
Picking up significant blocks of shares in Itochu, Mitsubishi Corporation, Mitsui & Co, Marubeni and Sumitomo Corporation, the arbitrage was set. All that was needed now was a recovery in investor sentiment, a little hope for the future and a scattering of growth expectations across the five companies.
When Warren Buffett invested in these five companies, each was valued at a circa 25% discount to their respective net asset values. Step forward to today, and the companies are now valued at 25% above their perceived book value. This is a massive shift in sentiment, moderately backed up by growing profits (but nothing spectacular) as Japanese equity markets approach an all-time high.
While the edge has been taken off the market a little, with news of a technical recession toward the end of 2023, interest rates are still expected to move to positive territory later this year. Initially there were hopes of a short-term increase in interest rates but these are now more focused any time from June onwards.
In recent months, there has been a significant change in the attitude of Japanese business executives toward shareholders. Some of this has been regulatory-driven, and some have been pressured by institutional investors, but whatever the reason, it is making a difference.
Warren Buffett spotted a moment in time when markets were subdued; investor sentiment was at rock bottom while there were early signs of a potential recovery. A mix of moderate profit growth, share buybacks, and greater interest from domestic and international investors has since pushed the Japanese stock market towards an all-time high.
All stock markets are impacted by investor sentiment, which is over-optimistic in the good times and overly pessimistic in the bad times. Investors had avoided the Japanese stock market for some time before the recent rally, with traders waiting to see any short-term trading opportunities. The fact Warren Buffett was able to buy and hold, awaiting a market rebound, perfectly illustrates the difference between investing and trading.
There is a common misconception amongst investors that all markets are efficient and there are very few significant arbitrage situations. When a market such as Japan has been ignored amid economic turmoil for at least the last 20 years, stock ratings can sometimes become detached from reality. The fact that it took nothing more than a more upbeat outlook on the economy and interest rates, and some modest growth forecasts, for these companies to see a significant shift from a 25% discount to a 25% premium on book value says everything.
It was interesting to see domestic and international investors start considering Japanese companies upon the emergence of real light at the end of the economic tunnel. Discounting positive but moderate profit growth in the short term, investors have begun to look further down the track, banking on changing long-term investor sentiment. The Oracle of Omaha has done it again, spotted value where other investors failed even to give a fleeting glance.
After taking significant stakes in all five companies, insiders believe he is sitting on a huge return. Much of this, at the moment, is based on the perception of change as opposed to actual significant growth in the economy and the profit of Japanese companies. The power of investor sentiment!
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