Focus on Companies with High Appeal for Investors

New index: JPX-Nikkei Index 400

Tokyo Stock Exchange

JPX-Nikkei Index 400 (JPXNikkei 400), a new stock index developed jointly by the Japan Exchange Group, Inc. (JPX) and Nikkei Inc., is attracting growing interest among overseas institutional investors. Here, Mr. Moriyuki Iwanaga, Senior Executive Officer of JPX, provides some insight about the objectives of the new index and its features.

New index consisting of “good companies”

Moriyuki Iwanaga, Senior Executive Officer, CFO & Clearing / Settlement
Moriyuki Iwanaga,
Senior Executive Officer,
CFO & Clearing / Settlement

The JPX-Nikkei 400 was announced in November 2013, and launched in January 2014. We first decided to create a new index in the summer of 2012. At that time, the share market was in a state of prolonged weakness, with daily trading volume of less than 짜1 trillion. At the time, the TOPIX index, calculated and disclosed by the Tokyo Stock Exchange (TSE), was hardly moving at all. This prompted financial authorities and relevant people in JPX to question whether or not there was a problem with TOPIX, and provided the opportunity to create a new index.

TOPIX is a weighted index based on the aggregate market value of all companies listed on the First Section of the TSE. It has a long history dating back to 1969, and is used as the benchmark in more than 90% of cases. The problem is that it only covers mature companies listed on the TSE’s First Section. Because TOPIX is the dominant benchmark, investment funds do not flow to younger companies, which is an obstacle to market metabolism, we felt.

Based on our awareness of the problem, we sought to create an index of “good companies” irrespective of First Section or Second Section TSE listings. Our goal was to create an index covering attractive Japanese stocks with worldwide appeal. When I say “good companies,” I’m referring to “companies with high appeal for investors.” We selected four key criteria: “companies committed to effective use of capital,” “companies committed to sustained improvement in corporate value,” “companies that understand investors,” and “companies that meet qualitative criteria required under global investment standards.”

Three performance indicators

In constructing the index, first we screened the market to determine which companies meet certain investment eligibility criteria. For example, we discarded companies that (1) have been listed for less than three years, (2) have liabilities in excess of assets and/or losses over the past three years, and (3) have been penalized under listing rules. Then we selected the top 1,000 companies in terms of aggregate market value and trading volume, and gave each one a score based on three quantitative indicators (including ROE). The top company received 1,000 points, and the bottom one (ranked 1,000th) received one point. Each company was then allotted additional points based on three qualitative criteria, then given a total number of points. (The three qualitative criteria were: appointment of multiple outside directors, adoption of International Financial Reporting Standards (IFRS), and disclosure of financial results in English.) The top 400 companies were selected to form the index.

With respect to quantitative criteria, we decided on three indicators to identify “companies with high appeal for investors”: (1) average ROE over past three years, (2) cumulative operating income over past three years, and (3) aggregate market value. Our choice of ROE reflects our emphasis on capital efficiency, and we decided to use a threeyear average to arrive at figures that are not temporary. The second criterion, operating income, mirrors the profits of a company’s core business and is an important financial indicator for protecting ROE. Finally, we could not exclude aggregate market value, because institutional investors place high priority on this indicator, and we want such investors to use our new index as a benchmark. After applying the three quantitative criteria, with weightings of 40%, 40%, and 20%, respectively, we arrived at a total score for each company.

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