Local Japanese banks have been staging a recovery in the wealth management arena, while a number of Western banks continue to try to crack the market.

Japan is possibly the world’s most enigmatic wealth management market and has entered an enigmatic new phase as local banks stage a comeback.

On the one hand Japanese households have about Y1400 trillion ($150 billion) stashed away, much of it in cash. But years of chronic deflation, market underperformance and a succession of financial scandals have created such widespread cynicism about banking providers that the wealth management market is still largely undeveloped. Japanese people might be savers, but they are not yet investors.

It shouldn’t be this way. An estimated 1.4 million Japanese citizens have assets of $1 million plus but much of that is literally hidden away in matresses at home. There is even an expression for this phenomenon: tansu yokin or mattress money.

In theory, these Japanese should have been interested customers in the offerings from western banks which have attempted to enter the market in the last two decades. But – as with China - the Japanese market is littered with failures by western banks lured by the potential of the world’s second largest economy.

The recent financial meltdown in the west has been another setback for foreign banking hopes in Japan. Names such as Merrill Lynch and UBS have had their problems at home, while the only really serious player – Citi – was forced to close down its Japanese private banking venture back in 2005. Citi fell foul of usually toothless Japanese regulators who accused the bank of misleading clients and loaning money for stock manipulation.

Merrill tried several times before it was absorbed by Bank of America last year. After the Asian financial crisis of the late 1990s, Merrill bought the failed broking giant Yamaichi, a move which it abandoned in 2001 after losing $500 million. It had a second try with the 50:50 Mitsubishi UFJ Financial Group deal, but that company has reversed the trend by buying 20 per cent of Morgan Stanley and making the Japanese bank a more senior partner.

For years western observers have maligned Japanese banks for their ponderous ways, their bad debts and the cross shareholding structure which sees them hold shares in other companies in their corporate family.

Japanese banking fightback

But in the aftermath of the global financial crisis Japanese banks are, if not fighting back, starting to make headway at home to the expense of the foreign players which, at one point, were expected to show them how it was done.

The Japanese banks might be cumbersome and operate very differently to their western counterparts, but they didn’t have anywhere near the exposure to the toxic assets which brought so many famous names undone in the US and Europe.

As banks such as UBS and SocGen cut their private banking headcounts across the region, locals such as Nomura are in expansion mode. Nomura opened its first private bank branch in Tokyo’s Ginza district in November 2007, and has just opened a branch in Kyoto.

Another example of the “Nipponification” of Japanese banking is Shinsei – the former Long Term Credit Bank of Japan in which US private equity house JC Flowers has a 32 per cent stake. Shinsei plans a merger with Aozora, 50 per cent owned by another US private equity player, Cerberus, a move which is likely to result in huge losses for the investors and consolidate the Japanese Government’s holding in both banks.

One foreign player expanding in Japan, as it is throughout the region, is Credit Suisse, which launched its Japanese private banking operation in December 2008. While some banks were forced to retreat by the crisis, others – Standard Chartered must also be mentioned - saw an opportunity and were prepared to move on it. In July, Credit Suisse said it was planning to lift its headcount from its current level of 40, and said it was planning to hire “hundreds” of employees in Japan.

This is a crucial period in Japanese wealth management. The outrageous loss of 50 million pension files last year by the government highlights the crisis. The Baby Boomer generation – Japan’s largest ever – is about to retire and about 20 million of them are struggling to be linked to the pensions they have saved for all their lives. There are signs that the economy is recovering and the long doom of deflation might be lifting.

Japanese may yet turn from savers to investors. As in China, it seems that the local banks, instead of being consigned to irrelevance by aggressive foreign players, might have more of a role in managing the wealth of its citizens than many may have thought.