ETF Trends
ETF Trends

Although their thunder has been stolen by other developed market currency hedged exchange traded funds, such as the WisdomTree Europe Hedged Equity Fund (NYSEArca: HEDJ) and the DeutscheX-trackers MSCI EAFE Hedged Equity Fund (NYSEArca: DBEF), Japan ETFs are still offering solid returns and attractive valuations.

The WisdomTree Japan Hedged Equity Fund (NYSEArca: DXJ) and the Deutsche X-trackers MSCI Japan Hedged Equity ETF (NYSEArca: DBJP) are each up more than 5.5% year-to-date, but some investors still view the risk/reward ratio with Japanese equities as favorable.

“Consider that Japanese companies maintained profitability despite the record strong yen post-2008 financial crisis, further, in spite of the horrific triple-disaster in March 2011 and its aftermath, and later the same year, Japanese companies with manufacturing facilities in Thailand faced historical monsoon floods (not to mention the negative externalities of global supply-chain disruptions, let alone the substantial loss and damage suffered by Thai citizens). Within Japan, the domestic infrastructure is beyond reliable (timely and quick transportation of both people and goods); the landscape is largely free of the sort of crime, poverty, and dilapidation that poses challenges to businesses in cities, for example, in the U.S.; companies don’t face numerous, sometimes frivolous and expensive lawsuits as they do again, for example, in the U.S.,” writes Evan Bleker of Net Net Hunter on ValueWalk.

Japan ETFs, particularly currency hedged funds like DXJ and DBJP, have impressed this year even as the CurrencyShares Japanese Yen Trust (NYSEArca: FXY) has traded modestly higher. The two ETFs have returned an average of 31.2% over the past two years, but even with those gains, Japan is an attractively valued developed market.

Japan’s cyclically-adjusted P/E ratio, or CAPE, is 21.8, well below the historical average of 34.5 and below the current U.S. CAPE of 24.4. There is good reason for the attractive valuations found on Japanese stocks.

“Japan’s earnings in aggregate have been increasing more than its aggregate stock prices. This remains one of the most attractive regions in global markets from a valuation standpoint—as earnings momentum looks stronger than other regions, and it has relatively low prices to its own history and to other markets,” said WisdomTree Research Director Jeremy Schwartz in a note out last month. [Valuation Opportunities in 2015]

Since 1974, the long-term price-to-book ratio between Japanese and U.S. stocks is around 1.2, but even with a dip below 0.75 since 1991, Japanese stocks are currently deeply discounted compared to U.S. counterparts, according to BlackRock data published earlier this month. [Value in Japan ETFs]

Investors have allocated $1 billion to DXJ this year and $58 million in new assets to DBJP.

Deutsche X-trackers MSCI Japan Hedged Equity ETF