Japanese shares hit a new all-time high earlier this month, with the Nikkei 225 index up 15% this year, outperforming the Topix index, which is up 9%. The performance gap between the two indices has spiked to the highest level in records going back to 1970, says Leo Lewis in the Financial Times. The Topix, which is weighted by market capitalisation, gives a more accurate picture of the broad health of the Japanese market.
The Nikkei 225, while more famous, is less accurate as it is weighted by price and tracks only the large-cap stocks. The latter's outperformance reflects strong buying enthusiasm from foreign investors for a handful of large-cap technology firms such as SoftBank, Tokyo Electron and Advantest.
While the technology names overheat, there is reason for optimism about the broader market. Corporate profits are picking up as the country exits years of “economic stagnation”, says a note from Asset Management One International. Pro-shareholder reforms are raising capital efficiency. Over the past 15 years, average return on equity for Japanese shares has been 8.14%, but that is on course to rise to 10.5% this year.
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There is more juice to be squeezed yet from corporate reforms. On a price-to-book ratio of 1.77, Japanese shares still trade at a notable discount to the 2.32 level of their UK counterparts, not to mention the 5.14 level of US shares.
Japanese shares surge but bonds rise too
Prime minister Sanae Takaichi won a landslide victory in February on populist spending promises. This week, it was reported that Takaichi's government is preparing a supplemental budget to pay for rising costs caused by the blockage of the Strait of Hormuz – Tokyo is heavily subsidising petrol prices.
Heavier Japanese government borrowing increases competition for the limited global supply of loanable funds. Japan has historically been a major exporter of capital through the carry trade. Now those funds are being pulled back home, depriving other finance ministries of a key source of demand for bonds. Japan's ten-year bond yield has hit its highest level since 1996.
At around 206% of GDP in 2024, Japan's gross public debt is the highest in the developed world, says Shigesaburo Okumura for Nikkei Asia. The OECD think tank's latest survey of Japan criticised its “populist fiscal management”. The report notes that, at 10%, Japan's sales tax is low and could be raised to help balance the books. But Takaichi says cutting the tax is a “long-cherished wish” – a wish thwarted by the country's supermarket payment systems, which aren't set up to charge the 0% rate on food she desires.
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