Market Commentary and Fund Performance

Performance data quoted represents past performance; past performance does not guarantee future results. The investment return and principal value of an investment will fluctuate so that an investor’s shares, when redeemed, may be worth more or less than their original cost. Current performance of the fund may be lower or higher than the performance quoted. Performance data current to the most recent month end, and standardized performance can be obtained by viewing the fact sheet or by clicking here.

Market Commentary and Fund Performance for January 2025

In January 2025, the TOPIX, which is a leading index of the Japanese stock market, rose by 1.63% compared to the end of the previous month.

In the first half of the month, the stock market declined amid rising long-term interest rates in both Japan and the U.S., following the dampening of expectations for a U.S. rate cut. This shift was driven by stronger-than-anticipated U.S. business sentiment and employment data, as well as reports that the Biden administration planned to tighten export controls on semiconductors for artificial intelligence (AI). The subsequent official announcement of these controls further weighed on sentiment. Midway through the month, remarks by the Bank of Japan’s (BOJ) Governor and Deputy Governor at the Monetary Policy Meeting signaled that a rate hike would be a topic of discussion and decision-making, increasing speculation of imminent policy tightening. This triggered yen appreciation, placing additional pressure on the stock market. However, as equities approached a key technical support level that had served as a floor since last fall, selling pressure subsided, leading to a sharp rebound.

In the latter half of the month, the Japanese stock market remained resilient, buoyed by U.S. President Trump’s decision to defer the immediate imposition of tariffs on China, a key campaign pledge, and an announcement from SoftBank Group, OpenAI (U.S.), Oracle (U.S.), and others regarding plans to invest up to $500 billion in U.S. artificial intelligence (AI) development over the next four years. These developments provided a strong tailwind for AI and semiconductor-related stocks. However, towards month-end, sentiment was dampened after Chinese AI developer DeepSeek revealed that it had developed a large-scale language model, surpassing U.S. counterparts at a lower cost. This raised concerns about the future competitive positioning of U.S. semiconductor firms, prompting a sharp sell-off in AI and semiconductor stocks in both Japan and the U.S., exerting downward pressure on the broader market. Nevertheless, equities staged a recovery towards the end of the month, closing at levels roughly unchanged from the previous month. Overall, the market continued to fluctuate within a well-established trading range. Although the BOJ raised its policy rate by 0.25% during the month, its impact was limited, as the move had been largely priced in following prior statements from the central bank’s leadership and widespread reports anticipating the hike.

As a result, the Fund returned -0.12% (HJSIX), underperforming its benchmark, the Russell/Nomura Small Cap™ Index, which returned 1.91%.

Stocks that positively contributed to the performance of the Fund this month included LITALICO Inc., Treasure Factory Co., Ltd., and The Musashino Bank, Ltd. LITALICO announced its third quarter results, and as its child welfare business turned a profit, expectations for improved performance increased, leading to strong buying interest. Treasure Factory also announced its third quarter results. Favorable growth in existing store sales led to a 20.4% year-on-year increase in operating profit, and this was well received by the market, leading to an increase in buying. Regarding Musashino Bank, the BOJ held a monetary policy meeting and decided on a 0.25% interest rate increase, and the contents of its Outlook Report were perceived as somewhat hawkish, strengthening investor preference for bank stocks.

Meanwhile, stocks that negatively contributed to the Fund’s performance included Musashi Seimitsu Industry Co., Ltd., PeptiDream Inc., and Daihen Corporation. With the arrival of DeepSeek, Musashi Seimitsu Industry has seen a rise in concerns about graphics processing unit (GPU) demand, and pessimism about the company’s hybrid supercapacitors, which could solve the power consumption problem of AI servers, has also increased, leading to an increase in selling. PeptiDream saw a rise in caution about its performance in the next fiscal year, leading to an upsurge in selling. Daihen saw a rise in caution about investment in power infrastructure due to the launch of DeepSeek, leading to an increase in selling.

No new investments were made during the month.

The market has continued to be unstable, due to concerns such as the significant increase in tariffs and other policies proposed by Trump, and also due to the rapid increase in concerns about a slowdown in capital investment in generative AI-related fields in response to the launch of the Chinese-made AI DeepSeek, which was developed at a very low cost, in the second half of the month. However, we believe that the emergence of low-cost AI will lead to the promotion of AI development and the acceleration of the introduction of AI technology into society in the medium term, and that room for potential business expansion will increase, so we have decided that there is no need for excessive concern. In addition, the favorable cycle of wages and prices that is developing in the Japanese economy is a rare feature which is not seen in other countries. We will continue to work to uncover investment opportunities overlooked by the market through a bottom-up approach.

We have been investing in Maeda Kosen Co., Ltd. for a long time. Maeda Kosen is a company that has expanded its business areas by actively utilizing mergers and acquisitions (M&A), having shifted its original business of contract textile processing to civil engineering materials. In addition to the structural growth of the market in which the company operates, we believe that its change of president in 2018 has led to even further progress in improving management capabilities. This month, we will revisit the investment appeal of Maeda Kosen.

The first point is the structural growth potential and characteristics of the markets in which Maeda Kosen operates. The company operates in two markets, namely civil engineering and industrial materials, and forged wheels for automobiles. Growth in the civil engineering and industrial materials market is expected to be driven by increasing social demand for improved construction productivity, while growth in the forged wheels for automobiles market is expected to be driven by the increasing size of automobiles and the expansion of the luxury automobile market.

In addition, although the two markets are completely different, the fact that Maeda Kosen has the right to set prices is an important feature the two markets have in common. Although it is easy to imitate the civil engineering materials themselves, by customizing materials that match the required construction characteristics and providing them as a package, the company has been able to avoid excessive competition with rival companies. Particularly in recent years, construction projects have become both larger and longer, and the difficulty of project management has increased, so there is a greater demand for companies like Maeda Kosen to provide materials in a packaged format. In the wheel business, the company has succeeded in differentiating itself from other simple automotive parts businesses by not only improving quality through active capital investment, but also by enhancing brand value through appropriate promotion. In recent years, as automobiles have become larger, the diameter of their wheels has also increased, and the growing importance of wheels in automobile design also serves as a tailwind for the forged wheel market.

The second point is the strengthening of business management by President Takahiro Maeda, who took office in 2018. President Takahiro Maeda’s main focus was on potential materials-based management, a sales management technique. As the civil engineering and industrial materials business is influenced by the volume and scale of demand for civil engineering projects, it is essential to be able to quickly identify upcoming construction projects and begin proposal activities. We will skip the detailed explanation of potential materials-based management, but it is a system that divides potential materials, which have their targets set at twice as high, into three categories. These are “prospects,” which have a high likelihood of being purchased, “in progress,” which are in the middle of negotiations, and “blank,” which need to be worked on in the future. Since assuming presidency in 2018, he has introduced potential materials-based management company-wide, and has also rejuvenated other directors, achieving business growth that greatly exceeds the initial plan.

We believe that this potential materials-based management expertise will also have a significant impact on Purchasing Managers’ Index (PMI), which determines the results of M&A. Maeda Kosen has been expanding its business areas through M&A, including agricultural materials and products to prevent damage from wild animals, but the seasonal fluctuations in demand for niche products are significant, and improving factory operating rates has been an issue. By implementing potential materials-based management across the entire group, it is possible to manage resources through visualization of the slower periods. In addition, although M&A sourcing was stagnant due to the COVID-19 pandemic, M&A has resumed since last year. Last year, the company announced the acquisition of Mitsui Chemicals Industrial Products (a civil engineering and construction materials manufacturer that is a group company of Mitsui Chemicals), which was its largest deal to date, and it is expected that performance growth will be achieved through PMI.

If we look at the stock price valuation, it is currently at the same level as the TOPIX, compared to around 2021 when it was given a high price to earnings ratio (P/E) due to its high growth rate. This is thought to be due to factors such as concerns that growth is dependent on M&A, and the conglomerate discount due to the company’s various businesses. However, as we have mentioned, the probability of future performance is increasing due to the strengthening of the management system, and it seems that the previously conservative approach to capital efficiency is also changing. We have concluded that the company’s potential corporate value has increased, therefore, we have increased the weight over the past few months.

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