Japan Banks: We Raise Our Fair Value Estimates After Monetary Policy Change, but Normalization Will Be Slow

We increase our fair value estimates for Japanese banks after the Bank of Japan’s decision last week to make the operation of its yield curve control policy more flexible. The yield on 10-year Japanese government bonds, or JGBs, has risen as far as 0.625% today after the central bank redesignated its previous 0.5% hard upper limit as a mere reference value and said it will now conduct purchase operations to maintain the level at its discretion rather than automatically in unlimited size. This affects our fair value calculations for Japanese banks, as we believe it changes the outlook for yen interest rates and credit costs in future years, though we do not expect much impact on earnings in the fiscal year ending March 2024.

Whereas we previously projected that industrywide return on equity for major Japanese banks would trend slightly lower over the coming decade from the industrywide ROE of 6.8% implied by the banks’ guidance this year, we now project that ROE will trend slightly upward, though only toward 7.5%, still short of the 8%-9% range where we put the banks’ cost of equity. A higher ROE implies higher fair price/book multiples if we hold price/earnings ratios constant. For price/earnings ratios, we think higher earnings and dividend growth will offset or perhaps more than offset multiple compression from a higher discount rate.

Our fair value estimates rise by around 30% for all the banks except for Japan Post Bank JPSTF, whose ROE benefits less from higher yen rates and whose fair value estimate rises by 16% to JPY 1,090. The largest increase is 38% for Mitsubishi UFJ Financial Group MUFG—to JPY 1,270 ($9 for the ADRs)—as we positively appraise company-specific improvement in its cost/income ratio following the sale of some of its U.S. operations. Our new fair values for the other banks are JPY 7,780 for Sumitomo Mitsui Financial Group SMFNF, or SMFG; JPY 2,490 for Mizuho MFG ($3.56 for the ADRs); JPY 6,840 for Sumitomo Mitsui Trust Holdings 8309, or SMTH; and JPY 890 for Resona RSNHF.