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Japanese Banks: From Pariahs To Objects Of Desire


Early last year, Japanese bank stocks resembled those goblin-like orc creatures in The Lord of the Rings film trilogy. Investors feared and loathed them. A severe market swoon -- the Nikkei stock index touched a 20-year low of about 7,800 last April -- had so badly damaged the capital bases of the major money-center banks in Tokyo that there was serious question whether they would ever recover.

In May, Resona Holdings Inc. (DWAGF), Japan's fifth-largest banking group, with $360 billion in assets, announced that it needed a $17 billion cash infusion from the government to stay above water. It was then nationalized. Little wonder that by June, bank stocks had cratered 35% over 12 months.

What a difference some economic good news makes. Today, Japanese bank stocks are on a tear, with once-scorned lenders such as Mizuho Financial Group (MZATY), Sumitomo-Mitsui Financial Group, and UFJ Bank clocking 50% to 150% spikes in their share values. Have investors gone mad? No, says Shuhei Abe, who manages $3.7 billion for Tokyo-based Sparx Asset Management Co. He thinks in coming months "the world will start to get very impressed" with the performance of Japan's oft-maligned banks.

Abe is no lonely bull. Global investors poured some $77 billion into Japan's stock markets in 2003 and another $18 billion in January alone. And the foreign investors can't seem to get enough of bank stocks. During the past six months, for example, they have doubled their holdings of UFJ to 23% of the company's shares outstanding. And they increased their stakes in Mitsubishi Tokyo Financial Group Inc. (MTF) by 57%, to some 22% of the total, and in Mizuho by 83%, to 11%.

Another major bank collapse might send investors fleeing. But optimists such as Dresdner Kleinwort Wasserstein analyst Peter Tasker think that the worst is over. "A financial Rubicon has been crossed," he says. For starters, dud bank loans actually decreased 18% in the fiscal year that ended last March, then dropped 10% more, to about $300 billion, in the six months ended Sept. 30. And if Japan's recovery holds up -- the economy grew at an annualized rate of 7% in the quarter ended in December -- that should continue. Corporate bankruptcies fell 24% in December from a year earlier, the 12th straight monthly decline. Goldman Sachs (GS) thinks that demand for new loans might pick up later this year, reversing six years of declining loan growth.

VALUE PLAYS? The stock market rally also has improved the banks' capital bases. As of September, Japanese banks were sitting on $25 billion in paper profits on their stock portfolios, compared with big losses a year earlier. All the major banking groups are forecasting profits for the fiscal year ending in March, and the stock-market valuations of their companies look awfully cheap compared with their global peers. "Mizuho has a market capitalization that is one-ninth that of Citigroup (C), and yet its assets are about the same size [$1.25 trillion vs. $1.20 trillion]," says James B. Rosenwald III, a managing partner with Dalton Investments LLC based in Los Angeles.

To optimists that means, all things being equal, that Japanese bank shares are value plays. Unfortunately, all things aren't equal. "Japanese banks' balance sheets are still highly questionable," says Rosenwald. Just last month, reports surfaced that the Financial Services Agency had ordered up a new round of audits on stock-market darling UFJ.

Still, the bank executives themselves are feeling flush. They are expanding their loan books and generating healthy fee income from investment banking and asset securitization. And they'll get a shot in the arm if the Bank of Japan raises interest rates above zero, where they have hovered since 1999. Have banks emerged from their decade in the wilderness? It's not a sure thing, but they are now much less frightening for investors than those nasty orcs were for filmgoers. By Brian Bremner in Tokyo


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