Promising start by the AVI Japan Opportunity Trust

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Promising start by the AVI Japan Opportunity Trust
Master Investor Magazine

Master Investor Magazine Issue 59

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Fears over the impact of the coronavirus on the global economy could create a buying opportunity for the AVI Japan Opportunity Trust as its premium narrows.

The £136m AVI Japan Opportunity Trust (LON:AJOT) invests in undervalued Japanese small-cap stocks and then takes an activist approach to unlock the value. It aims to benefit from the country’s corporate reform programme that is putting pressure on companies to increase the efficiency of their balance sheets.

AJOT invests in a concentrated portfolio of high quality, cash flow generative and compellingly valued stocks. This should mean that it profits not only from the growth in the underlying businesses, but from the corporate reforms that are intended to strengthen governance and improve shareholder returns.

Manager Joe Bauernfreund also runs the firm’s £1.06bn AVI Global Trust (LON:AGT), which was formerly known as the British Empire Trust. He looks for asset-backed companies on low valuations where he can see a catalyst for a re-rating and believes that small-cap Japan represents an outstanding opportunity.

81% of the market cap is in cash or transferrable securities

Bauernfreund has found that the greatest number of opportunities lies in the cash-rich, small-cap, Japanese companies that are unloved and under-researched by the market. At the end of December, on a look-through basis, the net cash of the stocks in the portfolio was equivalent to 45% of their market cap, with 81% of the market cap in cash or transferrable securities. The free cash flow yield was 5.8%.

According to the fund’s inaugural accounts, over the period from inception on 27 July 2018 to 31 December 2019 the NAV and share price total return both equated to 14.3%, which was well ahead of the 7.9% return from the MSCI Japan Small Cap benchmark.

Japan’s corporate reform agenda has led to an increasing focus on shareholder returns and return on equity and this has paved the way for the fund’s softly, softly activist approach to bear fruit. To date, ten portfolio companies (out of the 28 holdings) have announced share buybacks and there have also been three takeovers at substantial premiums.

Be patient

Over the last 12 months the trust’s shares have traded at an average premium to NAV of three percent, but fears about the impact of the coronavirus on global growth have seen this narrow and the share price contract. Unfortunately, the risk of it turning into a fully-fledged pandemic will weigh on all risk assets in the short-term, so I would suggest putting AJOT on your watch list and being ready to step in when things calm down.

In January I highlighted the Nippon Active Value Fund, which is the second investment trust to specifically target this area of the market. It has since hit its minimum funding target with the IPO attracting £103m of capital. The shares started trading last Friday under the ticker NAVF.

Some Japanese small-cap stocks look ridiculously cheap because the cash and transferable securities held on their balance sheets have not been put to use and are heavily discounted by the market. The corporate reform agenda is starting to make these companies focus more on shareholder returns and this should enable the funds that target this area to make benchmark beating long-term gains once we escape from the grip of the coronavirus.

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