Take profits while political storms settle in Japan

The beginnings of a bullish consensus is being formed in Japan. Even in the wake of the Livedoor scandal of last month (which prompted a temporary sell off of the Nikkei index), most analysts and strategists say it is one of their favourite markets for 2006.

This is due to the fact that the economy finally appears to have pulled itself out of the deflationary spiral of the last 15 years. Indeed, over the last month nearly all the data from Japan (from consumer confidence to prices and bonuses) has been impressive, and there is evidence, says Jonathan Allum of KBC, that the confidence of the bears is on the wane.

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However, not everyone is entirely convinced that now is the best time to invest in Japan. The recovery of Japan offers "a compelling long-term story", Edward Cartwright, Japan analyst for KGR Capital, told MoneyWeek, but right now there are some causes for concern that should stop investors getting carried away. The market is "seriously overbought", says Cartwright, leaving plenty of scope for disappointment.

The political situation, for example, is tough to call: reformist prime minister Junichiro Koizumi is likely to step down in the summer, something that means that company law reform vitally needed has been delayed yet again.

Also a concern, says Allum, is that recovery in Japan may now be derailed by fiscal policy. Koizumi made it clear that consumption tax in Japan would not rise from 5% on his watch, but as he prepares to go, Ministry of Finance officials are already calling for a hike to 10%. That's not good.

The next quarterly earnings season in Japan kicks off around now, says Cartwright, and there's a strong chance that, once again, profits will surprise on the upside. That might make it an "opportune moment to take a few profits" before buying back in later in the year when things are clearer.

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