Japan’s economy is in its longest expansion since before the 2008 global financial crisis, thanks to the Bank of Japan’s monetary stimulus and some economic reforms that Japanese Prime Minister Shinzo Abe put in place the past few years.

In July, the Bank of Japan said the output gap, which measures supply and demand in the nation’s economy, rose for a third consecutive quarter during 2017’s first quarter, according to Bloomberg News. This is the highest level since 2008, the bank said. Japan’s most recent gross domestic product data registered a fifth consecutive quarter of growth, the longest since 2006.

The nation’s stock market reflects this growth, with the Nikkei index up 4.6 percent so far this year. Although the Nikkei lags the Standard & Poor’s 500 stock index’s gain of 9 percent this year, portfolio managers and other market watchers are waiting to see if Japan’s economy is finally breaking free of a malaise that dates back to the 1990s.

[See: 10 Ways to Play in the Asia-Pacific Stocks Pool.]

Robert Sharpe, vice president and portfolio manager of the Milwaukee-based Heartland International Value Fund, says because Japan has experienced slow growth for longer than any other nation, its economy could help pull the rest of the world out of a low-growth funk.

Skeptics, however, point out that Japan’s economy is notorious for slumping again just when it appears to be turning the corner.

“I want to come down heavily on the side that it’s not different this time,” says Aash Shah, senior portfolio manager at Summit Global Investment in Salt Lake City. Shah says Japan’s growth is slight and the economy still has big structural problems to deal with, like an aging demographic and a shrinking population.

Market watchers say investors who want to take a chance on Japanese equities can find good values in companies with small market capitalizations.

Structural changes. Ken Applegate, portfolio manager of the International Growth Fund at Wasatch Advisors in Salt Lake City, has watched the country for about 20 years and says Japan has experienced significant changes since Abe was elected in 2012. That’s led Wasatch Advisors to allocate more holdings in its portfolios to Japan.

Applegate says team members see the difference themselves when traveling to Japan once or twice a year. It’s one thing to look at economic data like gross domestic product and inflation targets, he says, but the smaller initiatives in the past five years will have the biggest long-term impact. Abe’s economic reforms are dubbed “three arrows” and include monetary easing, fiscal stimulus and restructuring.

“I heard an interesting quote — instead of calling (structural reform) the third arrow, it’s more like a thousand needles,” Applegate says. “There really are a lot of different initiatives and reforms that will have impacts. They’re sustainable and long-lasting (but) they may not provide an immediate boost.”

One change affects corporate governance by bringing independent board members to companies, he says. Companies are also using cash more, whether to expand the firm or invest in research and development, which helps with the return on equity, he says.

Those are significant reforms, says Rupal J. Bhansali, New York-based chief investment officer and international and global equities portfolio manager for Ariel Investments.

The change in Japanese corporate mentality also helps with recruiting talent from abroad rather than just looking inward for solutions, she says. For example, Takeda Pharmaceuticals’ chief executive officer and chief science officer, along with several others in the C-suite, aren’t Japanese. Skincare company Shiseido hired a former Coca-Cola (ticker: KO) executive, Masahiko Uotani, for its CEO.

[See: 7 Pharma Stocks and the Prognosis for Profits.]

“That gives you a sense there’s an inflection in corporate governance,” Bhansali says. “The world is not paying as much attention to it that we think is warranted.”

Be selective. Sharpe, who also recently returned from Japan, says investors considering Japanese equities should look beyond cash holdings because Japanese firms fund themselves differently than U.S. companies, which depend on capital markets for financing.

One firm Bhansali likes is Docomo ( DCM), a domestic wireless company that’s more likely to be immune from Japan’s economic cycles. Docomo trades on 13 times earnings and offers a 3.5 percent dividend yield.

“To get a 3.5 percent dividend in yen, which is a currency that has a tendency to strengthen over time, is a very attractive proposition for a U.S. investor,” she says.

Applegate’s firm likes Japan’s pharmacy industry, which is just starting to consolidate. In the U.S., where the consolidation trend isn’t new, three top companies control the vast majority of pharmacies. AIN Holding is one of Japan’s largest players. The company has doubled in size over the past five years, a trend Applegate says should continue, making AIN a long-term investment. The stock trades in Tokyo and may be easiest for a retail investor to buy through a mutual fund, like Vanguard FTSE All-World ex-US Small-Cap Index Fund ( VFSVX), which holds the company. The fund has $4.7 billion in assets under management, an expense ratio of 0.27 basis points and is up 14.9 percent for the year.

While Summit’s Shah doesn’t favor Japan, he believes small caps in select fields like robotics could provide growth, although they can be difficult for U.S. investors to buy individually. Sharpe also likes the growth potential of Japanese small caps.

Besides the Vanguard mutual fund, there are four Japanese small-cap exchange-traded funds. The largest by assets under management is WisdomTree Japan SmallCap Dividend Fund ETF ( DFJ), which tracks an index of dividend-paying Japanese small-cap stocks. It manages $496 million in assets and has an expense ratio of 0.58 percent. Year-to-date, the fund is up 13.83 percent.

[See: 10 Ways to Buy International Small-Cap Stocks.]

For ETF investors who want to mitigate currency exposure, the WisdomTree Japan Hedged SmallCap Equity Fund ETF ( DXJS) also uses a dividend-weighted index of Japanese small-cap stocks, but is hedged for currency fluctuations between the U.S. dollar and Japanese yen. This fund also has an expense ratio of 0.58 percent, with $134 million in managed assets. Year-to-date, WisdomTree Japan Hedged SmallCap is up 11.64 percent.

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