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A crackdown in China is bad news for four Japanese stocks, expert says

Key Points
  • Andrew Jackson, head of Japanese equities at SooChow CSSD Capital Markets, warned investors about four stocks: Japanese beauty brands Pola Orbis, Kose, Fancl and Shiseido.
  • There have been multiple reports since the beginning of October about Chinese customs stepping up checks on travelers bringing in beauty goods purchased overseas to be resold back home.
  • Chinese visitors accounted for the largest group of tourists to Japan in 2017, and have been "big spenders," driven by the culture of re-selling.
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Discussing the outlook for Asian luxury stocks

Investors would do well to avoid stocks of popular Japanese cosmetics companies amid a crackdown on Chinese visitors to Japan who would buy beauty products in bulk and re-sell them back home, according to one expert.

Speaking to CNBC on Wednesday, Andrew Jackson, head of Japanese equities at SooChow CSSD Capital Markets (Asia), warned about four stocks in particular: Japanese beauty brands Pola Orbis, Kose, Fancl and Shiseido.

There have been multiple reports since the beginning of October about Chinese customs stepping up checks on travelers bringing in beauty goods purchased overseas. For the last few years, there have been many informal cosmetics dealerships making a profit by selling goods at prices cheaper than official distributors in China but higher than the prices in Japan.

Since the beginning of October, when reports of the crackdown started surfacing, shares of those major Japanese names have plunged. As of Wednesday's close, Shiseido and Pola Orbis had dropped about 18 percent, and Kose and Fancl had both fallen about 16 percent.

Shiseido, Kose and Pola — a subsidiary of the Pola Orbis group — sold a combined 93.9 billion yen ($834 million) in beauty products to foreign visitors in 2017. That was up 80 percent from 50.5 billion yen in 2015, according to media reports.

In particular, Jackson singled out Pola Orbis as his "No. 1 short," referring to the process of selling borrowed shares in the hopes of buying back the same stock at a lower price and turning a profit.

"At this point, you want to be looking at names that don't have a very extensive distribution network domestically within China. Pola Orbis stands out because their hit product, (which) is called Wrinkle Shot, that has been selling like crazy everywhere else except for China, where it's yet to get China's equivalent of FDA approval," he said Wednesday on CNBC's "Street Signs," referring to the U.S. Food and Drug Administration.

A Chinese tourist, right, inspects a wrist watch at a Laox Co. store in the Ginza district of Tokyo, Japan.
Yuriko Nakao | Bloomberg | Getty Images

"So the one hit product that's been driving revenues is not available in China. If the resellers can't get it overseas and bring it back, then where does it leave revenues for Pola Orbis? Potentially a big problem and I think that's probably my No. 1 short when it comes to the sector," he continued.

Jackson also pointed to a slowdown in visitor arrivals in Japan last month. Tourism spending in September has already gone down, with China's spending down 10 percent. The Chinese accounted for the largest group of tourists to Japan in 2017, and have been "big spenders," driven by the culture of re-selling, he said.

The impact of the crackdown is going to start showing up in company results in the next couple of quarters, Jackson said.

"It's bad for those cosmetics companies if it does not make sense for the Chinese to go to Japan anymore (to buy such products)," he said.

Jackson also singled out the stocks of duty-free stores in Japan, which have been riding on the back of such sales. Those include Matsumoto Kiyoshi, Japan's biggest drugstore, which has a range of beauty products popular with tourists.

"A large percentage of their sales is cosmetics related, and it is terrible for them if the (Chinese) authorities are cracking down on this practice," he said.