Dear Hennessy Funds Shareholder:
The U.S. market has been in a volatile, sideways correction for over a year now as investors brace themselves for the first rise in short-term interest rates in almost a decade. The Japanese market also experienced some volatility,especially towards the end of the year when fear of slower growth in China, Japan’s largest trading partner, dominated investor thinking. Nevertheless, we continue to believe that as long as the Fed does not raise interest rates too significantly,and low inflation suggests that it won’t, global economies should continue their steady expansion, thereby providing a stable environment for Japan and its program of macroeconomic stimulus and structural reform.
Both the Nikkei 225 Index and the TOPIX Index finished the 12-month period ended October 31, 2015 higher, returning 10.00% and 10.22%, respectively in U.S. Dollar terms. During the year, the Nikkei 225 Index surpassed its old high established in 2007, the first time the index has overtaken a previous high since 1994. The end of this fiscal year marks the third consecutive year that the index has closed in positive territory.
The initial results of Japan’s economic strategy,known as “Abenomics,” were clearly visible this year. The Bank of Japan’s quantitative easing measures, which have caused the yen to weaken, have resulted in an almost three-fold increase in foreign visitors to Japan over the last three years and have caused the balance of trade to move steadily towards a surplus. We believe that tourism will continue to help drive economic strength in Japan, especially in 2020 when Japan will host the Olympics. And while the inflation rate slipped in the second half of the year, real wage growth achieved marked acceleration this year, recording positive growth in five of the last six months. Corporate profits reached a new high, posting growth of 24% in the quarter ended in June, and even capital spending, after years of contraction, is growing again.
Perhaps this year’s most important new reform under Abenomics was the introduction of the Corporate Governance Code in June. This initiative aims to unlock the shareholder value buried within many of Japan’s corporations. The Code provides for the elimination of cross-shareholdings between large Japanese companies, which was often a way to entrench and protect management and majority owners at the expense of general shareholders and the value of their investments. The Code also proposes a reduction in the use of poison pills, opening up inefficiently run companies to the possibility of being taken over. For the first time, listed Japanese companies will need to have two experienced, independent directors sitting on their boards. The Code is not legally binding, but we expect its “comply or explain” implementation approach to be very effective in Japan. Moreover, it appears that the voice of minority shareholders and investors is increasingly being heard in boardrooms. As a consequence of these structural changes, “friendly,” Japanese-style, activist investment strategies, uncommon in Japan in the past, are starting to emerge.
In addition, Japan’s equity market received a boost this year when the Government Pension Investment Fund (GPIF) announced a dramatic asset allocation shift away from Japanese government bond investments towards Japanese and foreign equities. Retail investors’ participation in the market is also growing as the number of participants in the recently introduced Nippon Individual Savings Account program continues to increase.
We remain optimistic about the long-term prospects for Japan and its stock market. In our view Abenomics’ various structural reforms and growth strategies are clearly beginning to deliver tangible results in the form of a strengthening labor market, increased investment, an improving balance of trade and robust growth of corporate profits.
Thank you for your continued confidence and investment in our products. If you have any questions or would like to speak with us directly,please don’t hesitate to call us at (800) 966-4354.
Sincerely,
Neil J. Hennessy
President and Chief Investment Officer
Hennessy Funds
Tadahiro Fujimura Masakazu Takeda
Portfolio Manager, Portfolio Manager,
Hennessy Japan Small Cap Fund (Trades, Portfolio); Hennessy Japan Fund (Trades, Portfolio);
Head of Investment & Research Fund Manager
and Sr. Portfolio Manager SPARX Asset Management Co., Ltd.
SPARX Asset Management Co., Ltd.
SPARX Asset Management Co., Ltd., located in Tokyo, Japan, is the sub-advisor to the Hennessy Japan Fund (Trades, Portfolio) and the Hennessy Japan Small Cap Fund (Trades, Portfolio).
Past performance does not guarantee future results.
Mutual fund investing involves risk. Principal loss is possible.
Opinions expressed are those of Neil Hennessy,Tadahiro Fujimura and Masakazu Takeda and are subject to change, are not guaranteed and should not be considered investment advice.
The Nikkei 225 and Tokyo Stock Price Index (TOPIX) are unmanaged indices commonly used to measure the performance of Japanese stocks. One cannot invest directly in an index.
Performance:
For the twelve-month period ended October 31, 2015, the Investor Class of the Hennessy Japan Fund (Trades, Portfolio) returned 10.56%, outperforming the Russell/Nomura Total Market™ Index and the Tokyo Stock Price Index (TOPIX), which returned 9.79% and 10.22% for the same period, respectively (in U.S. Dollar terms).
The largest positive contributors to the Fund’s performance among the 33 TOPIX sub-industries were investments in miscellaneous product companies (including baby care product manufacturers and athletic shoe makers), transportation equipment companies and electric appliances makers. Conversely,our investments in the information & communication sector performed negatively during the twelve-month period.
Among the strongest performing stocks in the Fund during the period were Ryohin Keikaku Co. Ltd. (TSE:7453, Financial), a “MUJI” retail store operator, Misumi Group, Inc. (TSE:9962, Financial), a manufacturer and distributor of metal mold components and precision machinery parts, Kao Corporation (TSE:4452, Financial), a producer of cosmetics, detergents, hygiene products and cooking oils, and Shimano, Inc., a global market share leading bicycle parts manufacturer. Shares of Misumi Group performed well on the back of good earnings. Shares of Kao Corp. gained amid solid earnings growth backed by stable growth in their domestic business and growing Asian sales. Solid earnings and strong franchises have led to steady share appreciation of both Shimano and Ryohin Keikaku. The Fund continues to hold all of these positions.
One of the most significant detractors from the Fund’s performance was SoftBank Group Corp (TSE:9984, Financial), one of Japan’s three mobile carriers. SoftBank, a new investment for the portfolio added in the third quarter, suffered from negative industry news, the eruption of price wars and the possibility of a Government-ordered plan to reduce wireless fees. The company is headed by its charismatic founder/president, Mr. Masayoshi Son, a 58-year old entrepreneur, who boasts an insatiable ambition to continue growing his firm globally for many years to come. We view the decline in the stock price of Softbank as a good opportunity to make a long-term investment in a company run by someone who we believe to be one of Japan’s best business leaders at an attractive price, and we feel that the potential risk-return profile of this investment is in our favor. The Fund continues to hold this position.
Investment Outlook:
We believe that Japan’s corporate profits will remain robust for the next few years thanks to a favorable exchange rate environment, as exporters today are generating far greater cash flows than they were four to five years ago when the Japanese yen (JPY) exchange rate was below 80 USD/JPY. These exporters had been streamlining their cost structure to stay profitable at rates around 75 USD/JPY, so in the current environment they are awash with cash. It is important to note that a lot of this cash flow is now being invested back into the companies in activities such as overseas capacity expansion, domestic production facility upgrades, and R&D projects. We expect this positive trend to continue to improve the competitive strength of the Japanese corporate sector even with no further depreciation of the JPY. As for domestic-oriented companies, two factors make us optimistic. First, we believe the negative effect of the sales tax increase that took effect in April 2014 is wearing off. Secondly,foreign inbound tourists continue to push up domestic consumption, a strong trend we see continuing in Japan with the yen at current levels.
Overall, we feel confident about the outlook for the Japanese economy,the Japanese stock market and the companies we hold as investments in the Fund. We will continue to seek and hold what we believe are high-quality,globally-oriented Japanese companies with smart management and time-tested business models.
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* Chartered Member of the Security Analysts Association of Japan
Opinions expressed are those of the Portfolio Managers as of the date written and are subject to change, are not guaranteed, and should not be considered investment advice or an indication of trading intent.
e twelve-month period ended October 31, 2015, the Investor Class of the Hennessy Japan Fund (Trades, Portfolio) returned 10.56%, outperforming the Russell/Nomura Total Market™ Index and the Tokyo Stock Price Index (TOPIX), which returned 9.79% and 10.22% for the same period, respectively (in U.S. Dollar terms).
The Russell/Nomura Total Market™ Index contains the top 98% of all stocks listed on Japan’s stock exchange and registered on Japan’s OTC market in terms of market capitalization. The Tokyo Price Index (TOPIX) is a market capitalization-weighted index of all companies listed on the First Section of the Tokyo Stock Exchange. One cannot invest directly in an index.
The Fund may invest in small and medium capitalized companies, which may have more limited liquidity and greater price volatility than large capitalization companies. The Fund invests in the stocks of companies operating in Japan; single-country funds may be subject to a higher degree of risk. The Fund may experience higher fees due to investments in pooled investment vehicles (including ETFs).
References to specific securities should not be considered a recommendation to buy or sell any security. Fund holdings and sector allocations are subject to change. Please refer to the Schedule of Investments included in this report for additional portfolio information.
Earnings growth is not a measure of the Fund’s future performance. Cash flow can be used as an indication of a company’s financial strength and represents earnings before depreciation, amortization, and non-cash charges.
