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Aerial view of Mount Fuji, Tokyo Tower and modern skyscrapers of Tokyo on a sunny day.
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Japanese stocks have been hitting record highs as confidence in domestic politics and the ruling government’s economic agenda returns, but experts warn of a disconnect between stocks and economic fundamentals.
Japanese Nikkei 225 Index There have been many firsts in recent days, in the so-called “high market trade”, following Prime Minister Sanae Takaichi’s landslide victory in the House of Representatives.
Japanese stocks were closed for a holiday on Wednesday, and the Nikkei hit a high of 57,960 points on Tuesday. The index is up about 15% so far this year.
Market observers said political optimism, driven by the city’s strong electoral mandate, had emerged as a key pillar of the rally. Equity investors welcomed the prospect of increased spending, tax cuts and a more positive economic agenda.
However, analysts warn that enthusiasm may outweigh clarity on how these policies will be financed, and that Japan’s stock market fundamentals now look increasingly fragile: vulnerable to currency fluctuations, global shocks and a widening gap between prices and fundamentals.
Richard Harris, CEO of investment management firm Port Shelter, said the market’s current rise is difficult to justify purely on economic strength: “It’s not really driven by fundamentals. If you look at currency movements, the performance of the economy…there’s nothing really particularly strong that justifies the market movement.”
From a comparative perspective, Japanese economy The economy contracted 0.4% in the three months to September, the first contraction in six quarters. Data released by the government in November showed. On an annualized basis, it contracted 1.8%.
The country is the most indebted in the world, with a debt-to-GDP ratio of nearly 230% by 2025, according to data. International Monetary Fund It shows that an increase in fiscal spending may lead to an increase in debt.
The government approved a fiscal stimulus package of more than $135 billion in November, promising increased borrowing.
Harris said sentiment, liquidity and narrative are the dominant forces guiding the market. “We’ve seen this in other markets as well,” he said, adding that Japan was not the only country to break records amid rising global enthusiasm for stocks and artificial intelligence-related investments.
Artificial Intelligence and Japanese Yen Uncertainty
Moody’s senior economist Stefan Angrick also said that the boom in artificial intelligence has boosted global stock markets, which can also be seen in Japanese stock markets.
“The current situation may look a little fragile from the perspective of valuations being driven by the global stock market boom,” Angelique told CNBC.
Japan’s massive investments in global manufacturing and capital goods make it a major beneficiary of AI development. But he said the link also makes markets sensitive to a cooling of global tech enthusiasm or to changes in the yuan’s exchange rate, which has quietly done much of the heavy lifting.
This sensitivity has become more pronounced in recent months, with concerns about an artificial intelligence bubble causing market volatility, including in Japanese stocks. The software industry sell-off came last week after artificial intelligence company Anthropic released new artificial intelligence tools designed to handle complex professional workflows that many software companies offer as core services.
Angelik added that the yen’s current valuation levels also appear somewhat fragile. The yen has depreciated sharply over the past year, which tends to be a boon for Japanese stocks because a sizeable portion of the market is made up of manufacturers that rely on exports.
A weaker yen can boost corporate earnings and boost stock valuations, but the impact is likely to fade over time. “The yen is trading away from fundamentals. Basically, it’s too weak. It’s unreasonably weak,” he said.
Data from the London Stock Exchange shows that the yen has depreciated about 3.67% against the dollar in the past six months.
Japan has said it may intervene if the yen continues to slide Japanese Finance Minister Satsuki Katayama Concerns about the “unilateral depreciation” of the yen were even conveyed to U.S. Treasury Secretary Scott Bessent.
Aberdeen Investments expects the yen to appreciate as real interest rates gradually rise as inflation slows more than it currently appreciates.
Angelique also expects the currency to strengthen. “It is expected that over the medium term, the yen should appreciate and we will see a slight decline in equity valuations,” adding that normalization of the currency could “bring equity markets significantly lower than they currently are.”
However, this is not to say that Japan’s stock market boom is without its hindrances.
Structural reforms in recent years, particularly around corporate governance, capital efficiency and shareholder returns, have led to durable growth, experts say. It’s a shift as companies ramp up share buybacks, eliminate cross-shareholdings and focus more aggressively on return on equity Encouraged by the Tokyo Stock Exchange.
Some asset managers believe Japan’s corporate fundamentals remain broadly supportive, but only if expectations are met.
Zuhair Khan, portfolio manager at Union Bancaire Privée, said the rally is “real” as long as strong, stable governments bring confidence to the market, but warned that prices are already showing progress that has yet to materialize.
“The market has already priced in some improvements that haven’t happened yet,” he said, citing expectations for asset sales, buybacks and margin improvements. There’s little room for disappointment.
“If the pace of improvement slows, then there are downside risks,” Khan said.
