Jeremy Beckwith: Bruised Japan market worth a fresh look as we enter new decade

THROUGHOUT the history of modern economics there has been a tendency for the end of a decade to mark a key, long-term turning point for at least one major financial market.

The transition of the 1970s into the 1980s marked the peak of inflationary influences in markets: January 1980 marked a gold peak of $850 that was not broken again until 2008, and also marked the peak in interest rates and bond yields in 1981 as the Reagan and Thatcher governments made lower inflation a greater economic priority than higher unemployment. Thus began a 20-year bear market in gold and commodities – notably oil, which also peaked in1980 with the second OPEC crisis – and, to date, a 27-year bull market in government bonds.

The end of the 1980s marked the end of the post-war Japanese equity and property bull market. Over the 1970s and the 1980s, Japanese stocks went up 20 times, before peaking in December 1989. The decision in early 1990 by the Bank of Japan aggressively to tighten monetary policy marked the death-knell for Japanese risk assets.

The dawn of this millennium marked the top of the western equity market bubble. In hindsight the scare over the millennium bug brought forward many years of IT spending and, together with the incredible possibilities that the internet was to offer, saw equity valuations soar to astonishing levels. The peak of the UK market was on 31, December 1999, although other markets rallied a bit further into March 2000. However, the new millennium also saw the start of major new bull markets in commodities. Gold and oil and most commodity indices saw double lows in 1999 and 2001, and have risen ever since.

Now, as the "noughties" turn into the decade with (as yet) no name, which of the big trends that have existed in markets are about to go into reverse? The prime candidates are the longest-lasting trends in financial markets: the near 30-year bull market in government bonds and the 20-year bear market in Japanese equities.

The credit crisis has led to governments effectively nationalising very large amounts of debt from the banking system, taking debt: GDP ratios to worrying levels, and calling into question the quality of government bonds. At the same time, it is generally believed that if forced to choose between higher inflation and higher unemployment, most elected politicians would choose inflation – and current ten-year yields below 4 per cent offer very little protection against such a choice.

Almost no-one, however, is considering Japan, where the equity market has fallen by 70 per cent in the past 20 years. Its economy has shown zero nominal economic growth over that period, with 25 per cent real growth offset by a 20 per cent decline in the price level.

It is a market loathed by its key investors, both domestic and foreign, because of its appalling performance. And yet, Japan now enjoys its first corruption-free government, the quality of Japanese products is world-renowned and the valuations of Japanese equities are cheap both in absolute terms and in relative terms, compared with other equity markets.

New, long-term bull markets begin with low expectations, low weightings and lack of belief, and rise as news emerges that slowly changes investors' beliefs and expectations.

Japan is potentially in just that place today.

• Jeremy Beckwith is chief investment officer at wealth managers Kleinwort Benson