Today’s Newsletter is Sponsored by Invictus Research
As many of you know, I am quite interested in financial history, economic data, and where they intersect. That said, keeping up with all of the economic data that comes out is a full-time job. One of my favorite “shortcuts” is the Daily Edge by Invictus Research.
The Daily Edge is a 6-10 minute video that covers all of the most important economic data and market moves from the day prior. It’s short, consumable, and 100% focused on connecting the dots between the economy and the markets (i.e. making you money). It’s like having a professional hedge fund analyst working for your portfolio… For the cost of a cup of coffee.
Before getting into today’s very exciting new series, I want to invite you to register for my conversation on October 11th with Ted Seides and Frederik Gieschen.
We will be discussing the past, present and future of institutional investing. Ted Seides is an absolute expert on institutional investing, having worked under David Swensen, managed a successful fund of funds, and now the host of famed podcast Capital Allocators. Frederik Gieschen is one of the best finance writers currently publishing online, and has been doing a deep dive on the history of institutional investors.
Hundreds and hundreds of investors are tuning into the webinar series I’m hosting, and this next conversation promises to be just as fascinating.
Now! I think writing one more post on inflation would drive me to the point of insanity, and I’m sure you feel similarly about reading another article on inflation…
That said, today I am debuting a new series profiling the men and women that have shaped financial history. One of my favorite “titans” of market history is Tokushichi Nomura II, the subject of today’s’ article. As you may have guessed from his name, Tokushichi was the founder of financial services industry giant Nomura Holdings.
Despite founding one of the world’s largest financial institutions still in operation today, very little is known about Tokushichi Nomura II. So pour a cup of coffee and settle in to learn about the ways that Tokushichi revolutionized financial services in Japan, and the world.
BACKGROUND & TOKUSHICHI NOMURA I
Tokushichi Nomura II’s father was born in Japan’s Osaka district in 1850, at a time when Japanese society still adhered to a strict class system of Samurais, Farmers, Artisans and Merchants. Thus, when Tokushichi Nomura I became a “money changer’s” apprentice at 10 years old, he was inducted into Japan’s lowest and least respectable class: merchants.
“Since there was no single fixed currency, the moneychangers played a key role in all trading activities. Paper money did not exist. With gold, silver and copper coins in circulation in frequently varying amounts, the moneychangers determined their relative values according to the market.” (Nomura)
Eventually, however, following a series of currency reforms and financial innovations, moneychangers became largely unnecessary. Regardless, when the man that he had been apprenticing for died in 1871, Tokushichi Nomura I opened up a moneychanging firm of his own: Nomura Shoten (1872).
Many of the reforms impacting moneychangers occurred as part of the Meiji Restoration in 1868, when the Tokugawa Shogunate government was ousted, and Japan returned to imperial rule under Emperor Mutsuhito.
Before this Meiji Restoration in 1868, during the Edo Period (1603 – 1867), Japan purposefully isolated itself from the West due to suspicions of foreign intervention, colonialism and Christianity. Foreigners were barred from entering Japan, Japanese citizens were prevented from leaving, and trade with Western nations was outlawed.
After the Meiji Restoration, Japan opened itself back up to the world for the first time in 200 years, and began modernizing to catch up with the West.
This was the Japan that Tokushichi Nomura II (Tokushichi II) was born into in 1878, one that was re-connecting with the West and rapidly modernizing its economy and infrastructure. Ironically, 1878 was also the year that Osaka and Tokyo’s stock exchanges were founded.
Tokushichi II grew up in a very different Japan than his Father. While his Father had experienced a strictly enforced class system under feudal rule, Tokushichi II was born into a Japanese society intently focused on social, political and economic modernization. As the company’s corporate history stated, he was a “child of a new age”.
ENTERING THE BUSINESS
When Tokushichi II was just 18 he dropped out of high-school and joined the family business, learning about the moneychanging business from his Father. However, Tokushichi II quickly grew bored with moneychanging, and pleaded with his father to let him learn about the stock market and investing. Despite being first in line to assume the family business as eldest son, Tokushichi II begged his father to pass down the family firm to his younger brother.
While the elder Tokushichi Nomura I rejected this request, he eventually allowed his son to go apprentice for Yasuhiro Shoten, his son-in-law’s stock-trading firm.
The Stock Market in Japanese Society
It is crucial to understand that in the late 19th century and early 20th century, most of the Japanese population distrusted brokers and held unfavorable views of the stock market. According to the book House of Nomura:
“Stockmarket dealing has always been considered a form of gambling by the Japanese… it was ignored by the general public. Respectable people did not associate with the exchanges of the Meiji period… Even the wealthy who owned shares in the few listed companies did not use the exchange to buy or sell them… brokers were notorious for front-running, trading in shares ahead of clients.”
In short, stock ownership was concentrated in the wealthy elite, who did not use the traditional exchanges to conduct transactions, while stock trading was largely concentrated in the merchant class, who enjoyed the speculation and “gambling” component of trading on the exchange.
“As the general public had yet to acquire a strong financial base, stock ownership remained the domain of the rich and stock trading the province of the hustling rice trader.” (House of Nomura)
When Tokushichi II joined Yasuhiro Shoten in 1896 as an apprentice, the Japanese stock market was enduring a significant boom due to the First Sino-Japanese War, which saw Japanese industries expand and modernize rapidly to keep pace with wartime demands. As companies in industries like shipping, banking and textiles experienced meaningful earnings growth, share prices and trading volume soared. The Tokyo Stock Exchange’s capitalization increased from 200,000 yen in 1878 to 600,000 yen in 1896.
Tokushichi II’s First Big Gamble
During his apprenticeship, Tokushichi II became enamored by the stock market. He was desperate to trade stocks and learn how to play the market, but was restricted to the typical apprenticeship tasks of sweeping floors, serving clients tea, etc. However, when he was sent to Osaka to for errands, Tokushichi II would linger around the Osaka Stock Exchange to study the market and learn how it operated by speaking with brokers.
Eventually, Tokushichi II’s desire to play the market became so intense that the young apprentice made a drastic move. After waiting for his brother-in-law / boss to leave the firm’s office, Tokushichi II stole government bonds worth 500 yen from the firm’s safe, and used these bonds as collateral to buy stocks at the exchange. For context, 500 yen at this time was worth more than the typical annual salary. The plan was for Tokushichi II to speculate successfully and return the 500 yen without getting caught, and keeping any profits he made.
Tokushichi II invested the full 500 yen into a stock that one of the broker’s told him was sure to go up. However, that rumor turned out to be false, and share prices crumbled, wiping out the 500 yen. The elder Tokushichi I was forced to bailout his son after the stolen funds were discovered. Thus, Tokushichi II’s first speculation was anything but a success. Yet, the episode did demonstrate the young man’s appetite for risk.
JOINING THE FAMILY BUSINESS
After Tokushichi II had shamed himself and his father by stealing and losing money at his apprenticeship, he joined the Japanese army to fulfill his mandatory military service. While Tokushichi II worked hard, he arguably “played” harder:
“His behavior often overstepped the bounds of proper military codes of conduct. On weekend leave Nomura explored the licentious underbelly of Kyoto. The binges of sake and sex sometimes extended to four or five days, ending only when scouting parties sent out by his sergeant arrived to haul him back to base.” (House of Nomura)
In 1902, after completing his mandatory time in the military, he joined the family business at Nomura Shoten as general manager. For the next couple years, he studied the market and tried to convince the firm’s clients to trade shares in the market.
At this point, the elder Tokushichi I had become a drunkard, and rarely came into work. However, as head of the family business, his son could still not make any drastic decisions without his blessing. So when war broke out again in 1904, and Tokushichi II anticipated a similar wartime boom as the one that occurred during the First Sino-Japanese conflict, he went pleading to his father about letting him take the family business in a new direction with access to the family’s funds.
After initially refusing his son access to the family fortune, Tokushichi I eventually relented. In 1904, Tokushichi II received access to the family fortune and assumed control of the family business, Nomura Shoten.
First Big Investment: Fukushima Boseki
The first major investment that Tokushichi II made as head of Nomura Shoten was in a textile company called Fukushima Boseki, which was rumored to be on the brink of bankruptcy. However, these were just rumors. After actually visiting and meeting with company management, Tokushichi II learned that the company was far from going bankrupt, and actually thriving. Management showed Tokushichi II their overflowing order books, and the young Nomura realized short sellers were spreading these bankruptcy rumors for their own benefit.
After a sharp selloff in Fukushima Boseki’s stock one day, Tokushichi II started buying up shares at 20 yen. Within the days prices rose to 25, and Tokushichi II continued buying until the price hit 30 yen. At this point, short sellers began panicking about the rising price of Fukushima Boseki stock, and went to exit their position by buying back shares of the company. They quickly realized that Tokushichi II owned most of the available shares, and buying back their shares would drive the price even higher. A short squeeze quickly ensued.
By the end of the year (1905), Fukushima Boseki’s share prices hit over 100 yen, and Tokushichi II had earned more than the 20,000 yen his father had lent to him from the family fortune. While he did sell some shares, he kept most of his position as a long-term investment. In fact, Tokushichi II never parted with his position. Now 117 years later, in 2022, Nomura Asset Management still owns 2.9% of Fukushima Boseki (now traded as Shikibo).
An Innovative Idea: The Nomura Shoten Research Department
Tokushichi II’s experience with Fukushima Boseki was critical to the development of his view and approach on investing. By actually researching the company, speaking to management, and looking at the statistics, Tokushichi II had realized that you cannot simply follow the wisdom of the crowd (who were spreading bankruptcy rumors). With this understanding, Tokushichi II made an innovative decision that was completely novel in this period of Japanese financial history: his financial services firm would open a research department dedicated to analyzing companies.
Again, we should remember that Japanese society generally distrusted the stock market because of front running, shady brokers, and scams that took advantage of investors. Thus, Tokushichi II’s decision to open an in-house research department helped establish Nomura Shoten as a credible and respectable firm that did not invest based on rumors and speculations.
“Nomura decided the best way to invest and beat the crowd was to hire someone to poke around individual companies, talk to management, check order-books and, if possible, calculate stock-price movements related to cycles in the Japanese and world economies.
He hired an investigative journalist named Kisaku Hashimoto to run Nomura Tokushichi Shoten’s newly formed research department… He was the ideal man to be the nation’s first research analyst…
In hiring Hashimoto, Nomura also improved the reputation of Nomura Shoten, differentiating the firm from the crude dealers on the floor of the Osaka Stock Exchange.”
This plan worked beautifully, and helped Nomura Shoten uncover valuable investment opportunities by getting the truth through rigorous research.
Tokushichi II: Marketing Genius
Publishing interesting and useful investment content is a marketing strategy favored by many financial services companies today. Tokushichi II helped pioneer this trend way back in 1906.
“Nomura began publication of a newsletter, the Osaka Nomura Business News, a daily that was widely distributed. The newsletter contained information on the previous day’s trading, analyses of particular stocks, and articles on current economics trends. It was a service which no other broker of the time had ever considered…”
Not only was this great indirect marketing for Nomura Shoten as a firm, it also provided an excellent service for investors. However, the newsletter served as a “top of funnel” source for attracting prospective clients:
“When the newsletter was introduced, Shinnosuke [Tokushichi II] made a statement of intent which must have sounded decidedly novel to the ears of investors: ‘Customer profits should be considered before the firm’s profits’… The concept of linking the company’s gains directly to those of the customer was given wide exposure in the Osaka Nomura Business News, and the findings of the company’s research department were published openly.
This meant that Nomura and its customers could make decisions from the same standpoint and followed logically from Shinnosuke’s belief that ‘the customer’s success is the company’s success’.”
Outside of the daily financial newsletter innovation, Tokushichi II’s sales and marketing strategy expanded into other “unique” ideas. For example, during the stock market boom of 1906, Tokushichi II purchased 10 more telephone lines and hired a female switchboard operator with “a seductive manner” to receive customers, “thinking she would encourage his male clients to place orders” (House of Nomura). The Nomura Shoten sales force literally went knocking on doors to speak with individuals about investment opportunities.
The “Big Short” in Osaka: Tokushichi II’s Massive Gamble
The Japanese stock market entered into an unprecedented boom and bubble between 1905 and early 1907. Shares of Tokushichi II’s textile company, Fukushima Boseki, for example had soared from their 1905 high of ¥100 to a staggering ¥421 by the end of 1906.
In May 1905, the Tokyo Stock Exchange index stood at ¥166, but rocketed to ¥780 in January 1907. In late 1906, after researching the market heavily, Tokushichi II took a massive short bet against the market.
Unfortunately for him, however, the market did not share this bearish outlook. Each day, Tokushichi II watched with agony as the overvalued market climbed higher. Margin calls started pouring in as his positions hemorrhaged money.
When creditors came to his office seeking repayment, Tokushichi II hid under his desk. An enclosed rickshaw transported him around Tokyo’s side streets so that no one could watch his movements. Despite the financial and emotional toll, he doubled down and purchased additional short positions. While his peers were swept up by bull market euphoria, Tokushichi II held conviction in Nomura Shoten’s research.
To others, however, he appeared insane. When he asked a friend, Shibayama, for a loan to finance his margin calls, Shibayama urged him to reconsider. Tokushichi II maintained his conviction:
“He [Nomura] handed Shibayama a list of all his personal assets and pledged them to the bank. ‘I am betting my life that I am correct. If someone considers a matter thoroughly and does nothing, the outcome is the same as if he had considered nothing at all. I have never been wrong.’”
Two days later, Nomura’s data-driven investment thesis came to fruition. From their peak on January 19, 1907 Japanese stocks fell 33%. By the end of the year, the market had lost 88% of its value. Tokushichi II profited $80M (2018 dollars) from his short bets. This earned Tokushichi II notoriety, with investors naming him the “Great General of the Stock Market”.
THE LEGACY OF TOKUSHICHI NOMURA II
The list of accomplishments that Tokushichi II achieved in his lifetime are far too extensive for one weekly newsletter. One of his last contributions before dying of pneumonia in 1919 was the incorporation of Nomura Bank in December 1917.
Tokushichi II’s life was characterized by relentless determination, massive bets, and innovative ideas that brought credibility to Japan’s investment industry. Initiatives like an in-house research department, daily market news journal, and an evidence/research based approach to investing revolutionized finacial services. There is much to learn from Nomura that is still applicable to all investors today.
I hope you enjoyed this first edition of my new series on the legends of market history. Please share with others!
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