The Nikkei 225 jumped 1.1% on 23 October after Prime Minister Shinzo Abe’s surprisingly strong margin of victory in weekend elections. The index now stands at a fresh 21-year high, having recorded 15 straight daily gains, its longest winning streak ever.
But while market optimism about policy and leadership continuity is understandable, we see several reasons for investors to remain more cautious over the mid-term:
- Abe’s post-election comments support our expectations that he will focus on constitutional reform over major supportive economic measures. A planned supplementary budget, while helpful, should amount to roughly JPY 2tr, or just 0.4% GDP.
- Markets may cheer higher odds for the reappointment of stimulus-friendly BoJ Governor Kuroda in April 2018. However, an eventual recovery in CPI, which we expect to rise above 1% within the next 12 months, could lead Kuroda to consider policy normalization as soon as the second half of 2018.
- In the near term, Japan’s economy should continue to expand above trend alongside a global upswing. Corporate earnings growth though has already hit a peak, in our view, and should decelerate through the next fiscal year. Abe’s planned sales tax hike (to 10%, from 8% now) for later next year could add to headwinds.
So we see limited upside for Japanese equities, and prefer stocks that can benefit from a tightening labor market or the emergence of inflation. We remain neutral on Japan in our global tactical asset allocation.
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