Will this region benefit from its own ISA reforms?

As usual in the weeks running up to the Autumn Statement, there’s plenty of speculation over the contents of Chancellor Jeremy Hunt’s briefcase.

It is rumoured that potential reforms to individual savings accounts (ISAs) are on the cards. One of the proposals is an extension of the current £20,000 ISA allowance to allow people to invest solely in UK companies. The idea is that an extra allowance of £5,000 could encourage more investment in UK companies. In our latest On The Money podcast episode, we covered the potential makeover for ISAs in detail.

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While there’s plenty of speculation over how ISAs may be revamped in the UK, a region that has modelled its own tax-free savings scheme on the UK’s system has recently made its own changes in a bid to encourage further investment from domestic investors. Around a decade ago, Japan launched the Nippon Individual Savings Account (NISA) scheme, as part of government efforts to change attitudes to saving in Japan.

According to research and consulting firm Cerulli Associates, NISA accounts have been increasing ever year, up from 5.6 million in January 2014 to 18.7 million in March 2023.

To try and boost demand further, from early next year the NISA yearly contribution limit will double (to around £13,000) and, more significantly, the tax exemption period will become permanent. At present, the tax-free period for a General NISA – in which stocks and investment funds can be held – is five years.

Nicholas Weindling, fund manager of JPMorgan Japanese (LSE:JFJ), says: “Most Japanese citizens are very risk averse, with the majority of people in cash rather than investing. It is hoped that over time this will change, and the tweaks to [the] ISA system will encourage more investment.

“Those changes to [the] NISA come at the same time that inflation has been picking up, having been at or near zero for around three decades. Even a small amount of inflation provides a greater incentive for Japan’s domestic investors to grow in numbers.”

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Junichi Takayama, investment director at Nikko Asset Management, adds that given the expansion of existing NISA investment limits, the flow from individual investors into mutual funds is expected to be significant.

Takayama says that around 30% of all NISA accounts are held by investors in their 20s and 30s. “It is worth noting that young people in their 20s and 30s have no memory of past investment bubbles (and no experience of watching those bubbles burst),” he says.

“The new NISA rules could embed a new generation of investors with greater confidence in the Japanese economy and motivate them to participate in Japan’s longer-term success.”

Japan’s long-running deflation problem following the bursting of its asset price bubble, in which its equity and property markets were greatly inflated, has long been a headwind for Japanese corporates and a major deterrent for international investors.

While other major economies are struggling with inflationary pressures, for Japan, rising prices are welcome. In particular, the emergence of inflation in Japan is beneficial for companies that have dominant market positions, as they haven’t had any pricing power for a long time.

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Another positive for Japan are the ongoing corporate governance reforms, which aim to make Japanese companies more friendly to shareholders, such as by returning more cash to shareholders in the form of dividends. In time, it is hoped these reforms will encourage both domestic and international investors to put more money into the region, thereby boosting share prices. In 2023, this has helped drive markets higher, with the Topix index rallying to a 30-year high. The “Warren Buffett effect” is also having an impact, with the investment titan buying up Japanese financial groups this year.

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Weindling adds: “There’s been significant changes for the better in terms of corporate governance. There are certain companies we wouldn’t have considered in the past making significant changes.”

However, a notable headwind for UK investors over the past couple of years has been the yen's weakness against the UK pound. As a result, this has diluted returns, with the average Japan investment trust down -1.9% over the past year, while over three years the losses have been more sizeable, at -18.1%.

Interactive investor’s Super 60 list of investment ideas includes four Japanese equity funds: Jupiter Japan Income, Baillie Gifford Shin Nippon, Lindsell Train Japanese and HSBC Japan Index.