Japan’s New Horizon: Investment Opportunities, Corporate Transformation and the Private Capital Boom

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1:35This is Wall Street Week. I'm David Weston bringing you stories of capitalism. This time, capitalism Japanese style. This is an ancient land with the imperial dynasty stretching back over a thousand years. Apollo Global Management invited us along as it convened a meeting of its 200 partners from around the world to see firsthand the investment opportunities it sees in Japan today, a world that has not traditionally been associated with risk. We're going to talk with Mark Rowan, the head of Apollo, as well as the leaders of Sony, Panasonic Automotive, and the Tokyo Stock Exchange. But we start with the story of Choraku.

2:10That's a Japanese term meaning falling behind. In 1980s, Japanese industry was the envy of the world in a variety of sectors such as automotive, electronics, and steel. As a result, asset values went up, particularly here in Tokyo, where real estate values went sky high, supported by patient capital that did not demand a lot of returns. The 1990s, though, saw that asset bubble burst. And when the Japanese government and Japanese banks did not step in aggressively, they took what was a lost decade and turned it into a lost three decades. Most people's expectation of Japan or business mindset of Japan is 30 years of stagnation.

2:49I think, you know, we call the lost ages during decades, and we do not have substantial growth in Japan. Japan faced deflation for a very, very long time. Japan has been suffering from deflation for more than two decades. In the late 80s, Japan's economy grew by as much as 6.7 % a year, only to have that growth plummet for most of the next 30 years, hovering between zero and 2%, and contracting during the great financial crisis and the COVID pandemic, relegating what had been the third largest economy in the world to number four as Germany surged past. The Nikkei stock market went 34 years without setting new highs.

3:34Japanese government bond yields turned negative and stayed there for years. But all that could now be changing as Japan emerges from those lost decades. What a lovely day in Tokyo. Mark Rowan is CEO of Apollo Global Management. This is a savings culture. And holding on to your cash or leaving your money into JGBs for the past 30 years has been fine because there's been no inflation. In fact, there's been deflation. All of a sudden, you have closer to 3 % inflation. You have interest rates up for the first time. And that savings is going to be deployed productively. And now some of it has to go toward retirement.

4:15They will want better solutions for retirement. But some of it is just going to keep up with purchase price and purchasing power. I think about what's happening in Japan. and in Japan they're going through generational change and it's generational change in corporate governance, it's in interest rates, it's in government policy and in many ways they are the first of the western democracies to face real aging, retirement and high levels of government debt and what's happening here is totally different than people's expectation because most people's expectation of Japan or business mindset of Japan is 30 years of stagnation.

4:54And that is so dynamic here today. The thing that got things going again for Japan was, ironically, adversity. As supply chains came under stress from the COVID shutdown and a war in Ukraine put pressure on energy prices, a big problem for a country dependent on oil from abroad. With the supply chain breakdown, corporate has executes to transfer the price to the retail. So now the CPI started to suddenly, which has been zero or negative for a very long time, suddenly went up to almost 3%. If she can get two-thirds, that's a bomb. A.G. Ueda is head of Asia Pacific for Apollo. Everybody has to think differently.

5:39So with the diffational environment, cash has been the king, but with the inflation at close to 3%. Cash is not the right assets to own. It's actually the worst assets to own. So that has to put the pressure on a lot of people to think about things differently. Even before the return of inflation, those responsible for Japanese markets were thinking differently, starting with Prime Minister Abe's call for market reform back in 2015. And it's true that for maybe a good decade, Japan did struggle in finding its way out of that banking crisis. Mireya Solis is director of the Center for Asia Policy Studies at the Brookings Institution and author of Japan's Quiet Leadership.

6:24But the fact is that we have overused the image of the last decades because this has not been a period where Japan has stood still, and people refer to this period as 30 years, and a lot has happened in the economy, in the politics, in international projection of Japan that actually shows that undercurrents of change have repositioned where Japan stands today. Some areas actually there was a lot of progress. I think in the area of corporate governance, you do see important changes there. I also believe that the notion of womenomics, the idea that Japan needed to create conditions for women not to have to choose between a career and a family, raising a family, those also were very, very positive, so much so that Japan actually has a very high level of female-level participation.

7:15As much as Prime Minister Abe may have laid the groundwork for reform, the state of the economy did not demand the changes he wanted. For that, they needed 3 % inflation to kick in. Well, it has changed everything. It has changed the politics. It has changed the main economic challenges that the country faces. And I think in many ways it has redirected areas where reform is necessary. Now inflation has returned, and there's a new prime minister in town, one who's just won a landslide victory and seeks to take Abenamik's reform to a new level. How many significant changes are happening in the Japanese, not only Japanese market, but also Japanese society.

7:59Hiromi Yameji is group CEO of the Japan Exchange Group, which oversees the Tokyo and Osaka stock exchanges. What was the role of government, the Japanese government, in the reforms? I think, you know, since the Prime Minister Abe supported our governance reform back in 2015, I think all the successors of Mr. Abe, like Mr. Suga, Mr. Kishida, Mr. Eshiba, and the current Ms. Takaiichi, all of them were quite big supporters of governance reform because all of them were convinced that growth of the private sector is essential for the growth of entire Japanese economy. Since taking over the TSE in 2021, Yamaji has implemented a series of reforms to encourage Japanese companies to become more profitable and more accountable.

8:50Your reforms of the markets has various aspects to it, including price-to-book ratio and interlocking ownership of equity and independent directors. What are the most important ones? I think to transform the mindset of the management of the companies. That's very important and also probably the most challenging thing. And PBR is just kind of a financial indicator to just gauge how much you progressed. But I think a fundamental challenge is to transform the mindset of the management. Not all minds are willing to be transformed. Have you had some management changes in order to respond to the reports?

9:35Well, I think, you know, at least once a year, we've analyzed the current situation of the Japanese market or Japanese companies. And we are not the entity to assess the progress. The global investors is the people who assess how much progress we've made. And, you know, last year, with the most recent one, we did an analysis of the current situation in December last year, based upon the 400 global investors, domestic and overseas. If the markets are any judge, Yamaji's efforts are bearing fruit. Last year was a record high, more than we have, 5 ,100 Mondays. And the total amount was 35 trillion yen.

10:20Both of them are record high. And that means that the buyer side is seeking for, say, more growth or urgent needs for growth. And the seller side is trying to reorganize their business portfolio. Or Tokyo Stock Exchange pushing the corporate to create more efficiency in the capital usage for corporates. And ROE has been very, very low. and more than 50 % of the company listed in Japan has been trading below the book value. So they are pushing for capital efficiency and they need to explain the reason why they're trading below the book. The Japanese push for higher returns in response to reflation comes against the backdrop of a long-term challenge that's increasingly common in major economies around the world.

11:13a rapidly aging workforce. Population between age 14 to 65 hit the peak in 1990. And since then, because society started aging, people spend less. So always demands shrink faster than supply. So the country faces long-term deflation and low growth. I think we're looking at things that are structural that are going to take place over the next five to ten years. the need for Japan to provide for its aging population and to deal with its aging population, the need for Japan to finance what it needs to finance, and the opportunity that Japan has. Japan responded to the challenges of its aging workforce by adding workers from groups that had been on the sidelines.

12:02Well, this is clearly one of the most serious challenges, because the sheer drop in the level of the population, the absolute numbers, but also the graying of the population. The other one is, of course, to bring in women into the workforce, to bring in the elderly, who in Japan tend to be still very active, and to make sure that you can, as much as possible, maximize labor participation. But there is a limit to how many women, elderly, and foreign workers Japan can bring into the workforce. What does reform of capital markets do to help that problem? I think, you know, the corporate governance reform says that we'd like to see more active female workers in the workforce and also more senior persons working freely in Japan.

12:50Now the labor force increased in Japan, but obviously a female job participation as well as a senior members job participation, there's a ceiling. I think, you know, we don't expect too much from those new forces coming in. So I think Japanese companies have been making a huge investment into automation or digitalization, AI usage. I think those are very important to enhance productivity, even though our population has been shrinking and also is going to shrink in the future. What are the large long-term capital needs that companies say, I need to have this for a long period of time? This is manufacturing.

13:33This is energy. This is AI and data. This is infrastructure. These are the big buckets that we're looking at. And the scale just of the infrastructure market, or as I say, just of the AI data energy market as one package is beyond anything we can comprehend. This is measured in trillions. Sometimes I joke and I say, we're about to spend every dollar since the invention of fire. And that's what we're doing. We are, as a world, going to issue more debt, access more capital in 2026 than ever before. I think this is ultimately about growing the pie. I think the Japanese were very defensive for a long period of time with good reason, given what was happening in the home market.

14:16I think there's a new swagger. Coming up, matchmaking between abundant capital and abundant capital needs. The opportunities that presents for companies like Apollo.

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15:41This is a story about henkaku. That's a Japanese term meaning fundamental reform. We've come to Japan to see how and why it is changing the way it does business. Changing what it expects from its corporations and changing what it expects in its investments. Not just for the sake of change, but in order to raise the capital needed to invest in productivity. Over the last three decades, Japan fell from second to fourth in the ranking of world economies. As it struggles to climb back up the leaderboard, it is focused on investment. In this case, trillions of dollars worth. 55 % of their assets sits in cash historically.

16:20And the corporate has been accumulated a lot of cash on balance sheet because they want to be safe and they want to be sustainable, and the cash is the safest assets for them to own. So even though the rate is the lowest in the world, the ratio of the cash on balance sheet among all the corporates was the highest in the world. That must be a lot of cash. It is. The retail asset is 2 ,000 trillion yen, so that's a lot of cash. While almost 55 % of Household financial assets in Japan sat in cash and deposits in 2022, a figure far higher than the U.S. or Europe. By 2024, that number had inched lower to around 50 percent, and the percentage of assets in equity markets had crept up to 14 percent.

17:08The head of the Tokyo and Osaka stock exchanges, Hiromi Yamaji, says that many Japanese companies are starting to use that cash to change the way they do business. Japanese companies are quite receptive for new development of technologies like AI. I think Japanese companies are early adopters of new technologies. But at the same time, how do we take advantage of those new technologies that, you know, you have to be quite serious how to utilize in what kind of areas. So now we are still in the very early stage. But I think Japanese companies are quite receptive to those new ideas. Japan is, I think, well positioned for the industrial renaissance.

17:57The energy shift, supply chain breakdown, and they need to rebuild it. AI changes. There are a lot of big themes going on where companies need a lot of capex. and the size of the new finance needs is growing so fast that the big demand for the capex will create a lot of demand for new finances, which a lot of capital can shift to. Japan may have a big need for investment. It may have the capital that's needed. But are its financial institutions in a position to direct the capital to where it is needed and at scale? Japan is like, I would say, like many economies. If you think about the structure of the Japanese market, it is primarily two financial products.

18:47Bank debt and equity. Apollo CEO Mark Rowan sees his company as providing a much-needed third way to finance the capital investment Japan needs. The equity market in the context of the world is actually quite small, although it is the second largest equity market in the world. But it is roughly the size of NVIDIA, just to put things in perspective. There's not the well-developed kind of corporate bond market that exists throughout the U.S. And so I think what we're watching, not just in Japan, but around the world, is corporate CFOs, corporate treasurers now understand that there are three types of finance.

19:22Things that are really highly rated and short, you want to be with your banks. There's no better provider. Equity, very, very expensive. Public markets for plain vanilla, very, very good execution. Everything else comes to the private market. The largest part of the private market today is investment grade. It is these large companies who have these transformational opportunities, who want to match long-dated investments. And most of what we're doing is long-dated with long-dated capital. And that is not what the banking system does well. That is not what the public markets do well. And so you're seeing this extraordinary growth.

19:58In the U.S., we've seen it in lots of ways. Meta's financing last year at some$30 billion. In Europe, we've seen the Europeans, who also have structural issues vis-a-vis capital availability, really embrace private finance. In Japan, we're seeing the beginnings of that. The work we've done with Sony, the work we've done with SMBC, the work we've done in financing buy now, pay later Japanese companies, is beginning to open up in the minds of CFOs and treasurers that there's just another alternative. It's not that private credit firms like Apollo seek to replace Japanese banks. Apollo's team says that it can supplement what the banks do.

20:37The public credit market is very, very small. I think there's only 60 trillion yen outstanding on the corporate bond market compared to the size of the finance. It's been quite small. So a lot of finance is being done by banks, who is basically private credit. So I think there's a demand for longer-dated capital. and also complex capital because the bank can provide cheaper and short-term finance. And with the huge capex needs, they need longer term, more complex finance structure where the private capital markets can solve the problem for it. We will start to establish private as just another alternative for every CFO and every treasurer.

21:29And by the way, in partnership with the Japanese banking system. because at the end of the day, we don't do what the banks do. We don't provide advice. We don't provide hedging, derivatives, M &A, any other service. That's the purview of the banking system. We provide a piece of capital that is in very short supply in Japan, investment-grade, long-dated, to finance what they need. It's growing gradually, and I think it's a good alternative investment vehicle, I mean alternative funding vehicle from the viewpoint of the companies. As you said, it used to be banks were the main creditors. But in these days, because the banking industry has so many restrictions, capital restrictions, kind of things, so their capability to provide lending to a private sector is getting to a limited amount.

22:21So I think private credit can play a bigger role in Japan as well. Firms like Apollo Global Advisors may see an important opportunity in the newly evolving Japanese markets. But are Japanese investors and companies receptive to adding private market alternatives to their means of financing? As you go out into the Japanese market, what resistance do you get to these new forms of investment vehicles? I don't think it's resistance. I think, again, just like in the wealth market, this is about education. In many instances, we are not going to Japanese corporates directly. We're going with their longtime banker.

22:58In some instances, particularly when Japanese companies are financing overseas, we'll deal with them directly. Our team here is unbelievable. From our chairman, Tanaka-san, to the head of our Asian business, Oeda-san, these are very well-known, very substantive individuals who have been at the cutting edge of finance for a very long time. The weight we have put here, the intellectual capital we've put here, is second to none. I think we're at the beginning of a trend, but I think this is going to be just a fascinating market for any number of reasons. I have never seen a business strategy or an investment that doesn't have some downside risk.

23:36So what are the possible downside risks to this bright new future that you see? Well, look, the downside risks are the same risks that exist around the world. So for me, the way I describe it is in my business career, most of the time, or I'd say 95 % of the outcomes are between two sidelines. And sometimes we like what's on the playing field, and sometimes we don't. Sometimes the economy is better or worse. Sometimes the capital markets are better or worse. Valuation is better or worse. But we know how to navigate those things. And the chance of an outside the sidelines outcome was small and unpredictable.

24:10That's my normal setup. Today, I only think 70, 75 % of the outcomes are between the two sidelines. And what's between the two sidelines is amazing. capital cycle, growth, employment, inflation coming down on a worldwide basis, lots of opportunity. But we can ignore that there is an increased risk of an out-of-the-box, out-of-expected outcome. And it's of a magnitude that investors, people like us, need to pay attention to that. And yes, there's always the credit cycle. I don't think that's what we're talking about. I think we're talking about geopolitics. I think we're talking about government deficits.

24:51I think we're talking about rates up and rates down. And so for the first time in a very long time, we are trying to address outcomes that perhaps could occur outside of what we normally see in front of us. But absent one of those outside the sidelines events, Rowan sees his firm as well positioned for a bright future in Japan. I look at our toolkit. Our toolkit starts with retirement services. We have been here any number of years. We are a very large reinsurance player to the Japanese market, and we are creating products for Japanese retirees. Second, we're a provider of capital to industry, whether it's Sony or SMBC or others.

25:33Third, we are in the buyout business here. This is one of the best buyout businesses here. You've met with some of our portfolio companies or companies we've had an investment in here. It is a very robust market and a very interesting market. The capital coming off the sidelines from households is looking for better rates of return now that they are facing 3 % inflation. And I expect this to be a very promising wealth market where people want safe yield. They want defensive equity. They want the kinds of things that have been available institutionally around the world for a long time that are now available as wealth products.

26:10Coming up, the challenges and opportunities of changing things. Shaking things up in the Japanese C-suite.

26:30This is a story about jisen. That's a Japanese term meaning putting theory into practice. Japan is changing the way it does business so it can have the money it needs to invest in productivity. What does that mean for Japanese corporations? The way they are structured and the way they finance those investments. There is a real corporate revolution going on. The notion of every company needing a plan to get above one time's book and essentially using shame as a tool for reform has been very, very effective. Management has the best position to formulate a plan, how to improve it, improve the current situation.

27:11The company itself has to drive how to transform the company. The combination of a reflating economy and market reforms in Japan are reverberating through corporate boardrooms and C-suites, causing CEOs to rethink everything from how they finance their businesses to what businesses they want to have in their portfolio. Are we seeing yet the effects of the reforms? Are CEOs acting differently, more actively? Well, I do think we're seeing changes. I think that we begin to see more diverse boards, and we begin to see perhaps the taking more of opportunities. Mireo Solis is a Japan expert at the Brookings Institution.