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Stocks

Market Scramble: Canon's rise looks frail without earnings support

Gains owe more to broader upturn than to fundamentals

TOKYO -- Shares in Canon have been riding a broad rally in Japanese equities since the U.S. presidential election, but the camera maker's advance seems precarious given an uncertain profit outlook.

Canon edged up 1% on Monday morning but soon started heading south, ending the day down 0.14% at 3,417 yen. "Hedge funds that had taken the yen's post-election decline as an opportunity to buy the stock apparently decided to lock in some profits," said an official at Asset Management One.

Canon overtook Keyence in market capitalization last week to become Japan's most valuable electronics maker for the first time in about five months. Its market cap came to 4.55 trillion yen ($39.6 billion) Monday, more than 110 billion yen above Keyence's. Investors have pounced on Canon shares, welcoming a dividend yield in the 4% range for the year ending this month.

But this is far from an earnings-driven advance. Analysts are growing bearish on Canon's 2017 outlook. Just six months ago, they saw operating profit topping 300 billion yen next year, up substantially from the company's 235 billion yen forecast for this year. But most recently, the consensus estimate has slid to 240 billion yen amid a tough environment for the company's mainstay multifunction copiers and digital cameras.

"It's unclear whether Canon can fully benefit from the weak yen" as it fights price competition, said Takafumi Hara at Goldman Sachs Japan. That the share price remains firm "symbolizes the current market where even companies with structurally sluggish earnings can draw buying as part of the broader trend," said Hidematsu Take of Epic Partners Investments.

Canon's robustness also shows investors' fear of missing out. "Foreign investors who don't own Japanese shares are increasingly asking what shares to buy," according to Shusuke Yamada at Merrill Lynch Japan Securities. Many of them employ macro trades that seek to follow the overall market trend, he said, noting that this tendency becomes stronger when U.S. interest rates are on the rise.

Some market watchers see two U.S. rate hikes next year in addition to the one expected this week. Data on the correlation between interest rates in major economies and Japanese equities shows that an increase in rates tends to lead to an upturn in price-earnings ratios for the automobile, electronics and banking sectors, according to Ryota Sakagami at JPMorgan Chase. This dynamic tends to accelerate stock market rallies. Hence, Sakagami and others are of the view that U.S. rate hikes will keep "Japanese equities generally strong."

Higher interest rates also have drawbacks, however. "Depending on how the economy fares, there may be three U.S. rate hikes next year, possibly depressing emerging-market currencies," said Koichi Fujishiro of the Dai-ichi Life Research Institute. Shares in companies with significant exposure to emerging economies, such as Nippon Steel & Sumitomo Metal and Mitsui O.S.K. Lines, lost ground Monday.

Foreign investors tend to wrap up their trading for the year around the calculation day for the special quotation of futures and options ahead of the holiday break, Epic Partners' Take noted. This year's calculation day was Friday. Canon's decline on Monday may signal that investors have started withdrawing money from the Japanese market.

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