At the time, Japanese bond yields had fallen to historic lows. In 1998, the 10-year Japanese government bond yield slipped below 2%, where it stayed for most of the next two decades. Similarly, in 2019, the US 10-year Treasury fell below the 2% threshold and is now widely expected to remain very low for a prolonged period as the Fed battles the macroeconomic effects of the pandemic with loose monetary policy.
In Japan’s ultralow rate environment, banks were indeed handicapped. Since 1998, Japanese banks underperformed sharply, while Japanese insurance companies did well and performed in line with the broader market (Display above, right). With banks around the world likely to face similar challenges today, we think the Japanese experience could be more relevant for global value investors than in the past when the country was widely seen as a macroeconomic outlier.
Maybe Japan is different? It’s well known that Japan’s demographics are shaped by an aging population, while its economy and labor market are less flexible than developed peers. And Japan’s banks—which account for about 16% of the country’s value index—historically haven’t written down bad debts as much as US and Western European lenders have. So while the Japanese case is instructive, we also took a closer look at the role of financials in global value performance over the years.
Global Value: More than Just Financials
For investors in global equities, the association between value stocks and financials is hard to break. Yet the weight of financials in the MSCI World Value Index has been falling, from 34% in September 2009 to about 22% in July 2020.
It’s true that financial stocks have been standout performers when value has done well. Our research shows that the financial sector has outperformed the broader market in nine out of 11 years of global value outperformance since 2004 (Display, left). Yet during those periods, the excess returns of global financials was relatively modest at 2.6% on average. Other sectors such as energy, materials, utilities and real estate generated stronger returns on average. The same pattern holds true when excluding the US, as in the MSCI EAFE benchmark, where value outperformed in 13 years (Display, right). In our view, these past trends show that strong performance in nonfinancial sectors has been an engine for value outperformance.