After leading the major Asian stock markets in the first half of the year, what is the outlook for the Japanese stock market in the second half?

Recently, several international financial institutions, including HSBC Holdings, UBS Group, and Deutsche Bank, have released outlook reports for the Asian market in the second half of 2024. Among Asian strategists and fund managers, there are still a considerable number of reports that list Japan as the top investment market.

Against this backdrop, on July 4th, the Nikkei average on the Tokyo stock market rose for the fifth consecutive day, closing at 40,913.65 yen, up 332.89 yen (0.82%) from the previous trading day. This marks the first time in three and a half months since the historical high of 40,888 yen on March 22nd that the record has been broken again. The Topix index also hit a new high.

On the other hand, during this period, financial stocks such as banks and insurance companies have driven up the index, while growth stocks, which led the rise in Japanese stocks from January to March this year, have begun to show signs of weakening momentum. Mitsubishi UFJ Financial Group's stock price rose by 17% in the seven trading days ending on July 2nd, reaching the highest level since 2006.

"Japanese stocks have re-established their position," said Tony Pasquariello, head of global hedge fund business and global markets at Goldman Sachs, to First Financial Daily reporters. "There is a clear correlation between Japanese government bond yields and the US dollar to yen exchange rate and the performance of Japanese bank stocks. The recent rise is mainly due to the gradual increase in Japanese government bond yields and the weak yen."

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In addition, Pasquariello mentioned that compared to the spring, the implied volatility of Japanese stocks has decreased significantly, "which again provides an opportunity for tactical positioning."

The result of multiple factors working together

Analysts generally believe that the recent recovery of the Japanese stock market is the result of multiple factors working together, including the influx of foreign capital, the enthusiasm of retail investors, and institutional investors buying at the end of the quarter to rebalance their portfolios.

The influx of foreign capital is considered an important factor in the rebound of the Japanese stock market. Goldman Sachs analysts said that with the positive outlook for the end of deflation, loose monetary policy, and improved corporate governance, a large amount of overseas funds have poured into the Japanese stock market. Although the depreciation of the yen has affected the performance of exchange-traded funds (ETFs) that have not hedged exchange rate risks, the overall trend of capital inflows remains strong. Data shows that in the fiscal year 2023, the total value of Japanese stocks held by foreign capital accounted for 31.8%, the highest level since 1970. UBS Group analysts said that this data clearly indicates that foreign capital's confidence in the Japanese market is gradually recovering.

This trend is not only reflected in direct stock purchases but also through the inflow of funds into Japan-related ETFs. Although some ETFs that have not hedged exchange rate risks have underperformed the benchmark stock index due to the decline of the yen, the overall trend of capital inflows remains strong.At the same time, the enthusiasm of retail investors continues to surge. Data from the Tokyo Stock Exchange shows that the number of individual shareholders of listed companies on the four major Japanese stock exchanges increased by 4.62 million in the fiscal year 2023 compared to the previous year, reaching a record 74.45 million. Morgan Stanley analysts believe that the increase in the number of retail investors is not only due to the rise in stock prices stimulating investment enthusiasm but also because of the stock splits implemented by Japanese companies, making stock prices more accessible to individual investors. For example, after the Japanese telecommunications company NTT conducted a 25:1 stock split, it added 1.06 million new shareholders, and other companies like Mitsubishi Corporation also added about 110,000 individual shareholders. In addition, the new version of the Japanese Individual Savings Account (NISA) tax-free plan, which started in January this year, has also promoted the increase in the number of individual investors. The plan is mainly aimed at small investors.

The driving force behind the market rebound also lies in the "rebalancing" purchases of Japanese stocks by institutional investors who have a low asset allocation ratio. Citigroup analysts stated that the Nikkei Average's performance lagged behind the global major stock markets from April to June, and this relatively lagging performance led some institutional investors to increase their allocation to Japanese stocks during asset rebalancing at the end of the quarter and other time nodes. This rebalancing buying has driven the overall rise of the market. From early April to mid-April, the Nikkei Average fell from the previous high of 39,773 points to around 37,000 points.

Furthermore, in the view of technical analysts, the moving averages of the Nikkei Average show signs of the market breaking through from a volatile trend. Technical analysts at Goldman Sachs stated that moving averages are the averages of stock prices over a certain period in the past, which help to determine the direction of the market. From May to late June, the Nikkei Average has been fluctuating between the 25-day and 75-day moving averages. Recently, the support level of the Nikkei Average has gradually moved up, with the deviation from each moving average reaching about 4%. This upward trend shows that the market's bottom support is relatively solid, further enhancing investor confidence.

How will the market perform in the second half of the year?

In the outlook reports for the Asian market in the second half of 2024 recently released by several international financial institutions, Japanese stocks are still highly favored.

Data compiled by institutions show that among Asian strategists and fund managers, the number of those who list Japanese stocks as the preferred investment market in the second half of the year is second only to China and India.

Hideyuki Ishiguro, Chief Strategist at Nomura Asset Management, said: "Unlike the Nikkei Average, which focuses on a certain type of stock, the trend of the Tokyo Stock Exchange Index indicates that the market has bottomed out." He added that Japan is emerging from deflation, and its valuations are still relatively low compared to the United States.

Goldman Sachs analysts believe that the Japanese stock market will continue to benefit from the global economic recovery and the country's loose monetary policy. The analysts stated that despite uncertainties in the global economy, Japan's domestic economic policies still have support, especially the continued loose policy of the Bank of Japan and the government's improvements in corporate governance will continue to attract foreign capital inflows.

Morgan Stanley analysts emphasized the continued enthusiasm of retail investors and the promotion of the new version of the Japanese Individual Savings Account (NISA), which will provide a stable flow of funds for the market. They predict that as more retail investors enter the market, the liquidity of the Japanese stock market will be further enhanced, thereby increasing the market's robustness and vitality.

UBS Group analysts focus on the profitability and dividend policies of Japanese companies. The analysts stated that with the improvement of corporate governance and the growth of corporate profits, Japanese companies will be more inclined to increase dividends and repurchase stocks, which will further strengthen investors' confidence in the Japanese stock market. Although the depreciation of the yen brings certain risks, for Japanese companies that are mainly export-oriented, a weak yen will enhance their international competitiveness, thereby promoting performance growth.Certainly, there are also opinions suggesting that the current rise in Japanese stocks is merely a counterattack rebound. As the global economic environment changes and Japanese domestic policies are adjusted, the performance of the Japanese stock market may experience fluctuations. Yuusuke Sakai, a senior trader at T&D Asset Management, stated: "Bank and insurance stocks were the laggards in May and June, and it could be said that the rebound occurred because they were previously lagging."

Yoshio Kamai, Executive Services Director at CLSA Japan, remarked: "It is often heard from overseas clients that as long as the yen does not stabilize, it is difficult to buy Japanese stocks." In the first quarter of this year, Japan's Gross Domestic Product (GDP) was revised to a decrease of 2.9% on a quarter-over-quarter annualized growth rate basis. Some believe that it may be premature to conclude that Japan has escaped deflation, which is a prerequisite for further rebound in Japanese stocks.

On July 1, the Japanese Cabinet Office released the revised GDP data for the first quarter of this year, showing that due to weak domestic demand, Japan's real GDP for the quarter, seasonally adjusted, decreased by 2.9% on an annualized basis. This represents a rare "unscheduled revision" of economic data by the Japanese government, which had previously released two reports on the first quarter economic data.