Japan fund sector review

Japanese shares have delivered strong gains over the past year with the flagship Nikkei 225 index up over 40% year‑on‑year, reaching record highs. However, that translated into a smaller return for overseas investors thanks to a fall in the yen in currency markets. The average fund in the Investment Association Japan sector rose by 29% to the end of April 2026.

Performance has also been quite narrow beneath the surface, with leadership concentrated in globally exposed sectors and companies benefiting from AI spending, corporate reform and currency weakness. Exposure to energy, commodities and overseas earnings were also tailwinds for certain areas.

These themes were able to overpower geopolitical concerns around the higher cost of energy linked to the Iran conflict, which served to depress more domestically-focused businesses. With consumer spending power under pressure from imported inflation, Japanese consumption has been weak, particularly affecting consumer discretionary names. Meanwhile, transport and utilities were pressured directly by higher oil and gas prices.

Corporate governance is big in Japan

Corporate governance reform has been an important positive factor supporting the performance of Japanese share markets. The new prime minister, Sanae Takaichi, has been keen to accelerate this corporate reform, for example by encouraging companies to use large cash balances to increase wages and reinvest in their businesses – previously she even wrote a book saying companies hoarding cash should be penalised.

The tighter corporate governance code in Japan has breathed fresh life into many ‘value’ parts of the market where shares were particularly cheap compared to their earnings. The strength seen in shares of Japanese banks and insurance companies since 2020 has been particularly notable. 

The broader effect is to reshape the business landscape with shareholder-friendly policies becoming more widespread across a multitude of industries and individual companies. These include better capital allocation, paying more dividends, instigating share buybacks, and unwinding complicated corporate structures. An uptick in merger and acquisition activity has also served as a further catalyst.

A more financially-motivated shareholder base also continues to push to effect change from the outside. While not all companies have wholeheartedly embraced reform, the progress so far has deservedly caught the attention of global investors, and this effect could have further room to run.

But the economic picture is uncertain

Japan is a major player in many critical global industries, but as a major importer of energy and food it is vulnerable to the import costs of necessities. The effective closure of the Strait of Hormuz is a significant challenge given a reliance on Gulf energy imports but government measures are expected to help contain the inflationary impulse.

That makes overall economic growth fragile with the Bank of Japan (BOJ) now forecasting around 0.5% for fiscal 2026 as weak consumer spending power dampens domestic demand – raising concerns about a mild stagflation environment.

The yen has stayed weak despite bouts of intervention from the Bank of Japan, and a more aggressive stance towards raising interest rates in the face of higher inflation would weaken the nation’s competitive edge and risk undermining growth. US tariffs also still pose a headache for export-exposed sectors such as autos and machinery. 

A further influence on the market is the proposed unwinding of the Bank of Japan’s ETF holdings built up in the 2010s to help boost inflation expectations and create a “wealth effect”. This highly unorthodox policy is now set to go into reverse with a very gradual offloading into the market. 

This brings mixed blessings for investors. A gradual seller of a $250bn portfolio of Japanese market ETFs stands to weigh on equity prices. However, the timescale is glacial, potentially lasting for decades, reflecting a deliberate strategy to avoid market disruption. It may also prove a further catalyst of corporate change. The BOJ’s passive ownership dilutes the influence of active investors that look to influence capital efficiency and shareholder returns, so its exit from the market could help support successful activism over time.

Recent investment fund performance

The Japanese stock market has been driven by a narrow section of stocks, but in contrast to US and Asian markets, that group has been mostly value-led rather than growth-led – exporters, big banks and industrials.

Some of these old-world names have found new relevance with their excellence in machinery, chips and automation, while others have been reappraised by investors as corporate governance reforms encouraged better use of capital and increased the use of dividends and buybacks.

On the other hand, higher-growth companies, and usually reliable but more expensive ‘quality growth’ areas, have mostly been laggards against the benchmark or a Japan index fund as higher energy and food prices put further pressure on consumers and domestic business activity.

As a result, there has been a marked difference in performance between the best Japan funds and the poorest over the past year, reflecting varying exposures to strong and weak parts of the market.

Overall, here's how two highly differentiated actively managed Japan investment funds on the Charles Stanley Direct Preferred List performed over the past year and over earlier periods, with commentary on each detailed below.

Before investing in any fund, please read the relevant Key Investor Information Document (KIID) or Key Information Document (KID), along with the Prospectus, to ensure they fit with your investment objectives, risk appetite and wider portfolio. Always ensure you have sufficient diversification to meet your needs by owning a variety of investments across different asset types and geographies. The value of investments, and the income derived from them, can fall as well as rise. Investors may get back less than invested. 

% returns from Japan funds, sectors, and benchmark index

Past performance is not a reliable indicator of future returns. Source: FE Analytics, data to 30/04/2026. Figures based on a total return £ basis with net income reinvested.

Japan funds or investment trusts to consider

Man Japan CoreAlpha

This fund’s contrarian, 'value'-driven approach targets shares that have fallen out of favour with the market. It continued to perform strongly in the review period, albeit with plenty of volatility along the way. The regulatory and governance initiatives in Japan have naturally favoured its value style as corporate change to address capital efficiency has been most pronounced in the cheapest parts of the market.

Over the course of 2025, the managers found opportunities to add to areas of Japanese excellence amid volatility. Positions were built in global exporters whose valuations had declined sharply including robotics, machinery, and factory automation, while dialling back in more defensive areas such as railways, construction, and housing stocks, which had performed well during the period of greatest uncertainty around US tariffs.

Auto stocks such as Nissan and Honda remain a key theme for the fund with the managers believing that corporate governance reforms are still in their infancy. So too in the financial sector, which is continuing to benefit from an upturn in inflation and interest rates, as well as a relaxation in regulations. In contrast, there is little exposure to AI or defence-related names, and profits have now been taken in robotics and factory automation as market sentiment shifted dramatically and those areas became more expensive.

The fund’s strict contrarian approach can result in volatile returns at times. The team tends to invest in stocks that have underperformed, sometimes to a significant degree, but things can worsen before they get better, and this can detract from the fund’s performance. Combined with a high-conviction approach of holding a relatively small number of stocks the approach increases risk and makes performance versus the benchmark index more erratic than the average Japanese equity fund. 

Baillie Gifford Japan Trust

Baillie Gifford Japan Trust captures many of the growth areas available among Japanese companies. The trust’s managers believe the Japanese economy is undergoing structural transformation, with companies being run more efficiently and the service sector becoming larger and more dynamic. 

To capitalise, they target companies that enjoy sustainable competitive advantages in their respective industries and can grow earnings at a faster rate than the market average over the longer term. The focus on growth results in a higher risk collection of holdings, which is exacerbated by gearing (borrowing to invest) of up to 20% and an ability to invest in unlisted companies.

The trust’s specific investment style encompassing newer, growth companies was an overall headwind to relative performance, as was the focus on long-term trends rather than the short-term impact of corporate reforms in more traditional industries. However, it was very much a game of two halves as the trust performed very well from May to September 2025 before stalling for the rest of the period.

SoftBank, which maintains large stakes in chip designer Arm and artificial intelligence leader OpenAI, was a major positive influence on returns, as was Sumitomo Metal Mining and SBI Holdings. Meanwhile, Rakuten Bank and GMO Internet weighed, and an overall bias to small and mid-sized companies likewise detracted from returns relative to peers.

Although performance has been disappointing over recent years, we retain conviction in the fund manager and approach for the long term. It’s only natural that fund managers with different styles and areas of focus will perform differently in different market conditions. The trust is run by an experienced and well-resourced team with a clearly defined process. What’s more, the part of the market it invests in could now be attractive having trailed for some time. 

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