How Japan’s Stock Market Outperforms Its Real Economy

Japan’s stock market has been on a remarkable rally in recent months, reaching new record highs and outperforming other major markets around the world. The Nikkei 225, the benchmark index of Japanese stocks, closed at 39,911 on March 10, 2024, surpassing its previous peak of 38,957 set in December 1989, at the height of Japan’s bubble economy.

However, Japan’s impressive stock market performance does not reflect its real economic situation, which has been struggling with various challenges and uncertainties. Japan’s economy shrank by 0.4% in the fourth quarter of 2023, entering a technical recession after two consecutive quarters of negative growth. Japan also slipped to fourth place in the global GDP rankings, behind Germany, in dollar terms.

Japan’s economy has been hit hard by the COVID-19 pandemic, which has disrupted its trade, tourism, and consumption. Japan has also faced structural problems, such as an aging and shrinking population, a high public debt, and a low productivity. Japan has also faced geopolitical risks, such as the tensions with China over the disputed islands in the East China Sea, and the uncertainty over the US-Japan alliance under the Biden administration.

A Divergent Explanation

How can Japan’s stock market outperform its real economy? There are several factors that can explain this divergence, according to analysts and experts.

One factor is the weak yen, which has depreciated by about 10% against the US dollar since the start of 2023. A weak yen makes Japanese exports more competitive and profitable in the global market, boosting the earnings and valuations of Japanese companies, especially those that rely heavily on overseas sales, such as automakers, electronics, and machinery.

Another factor is the strong corporate earnings, which have exceeded the expectations and forecasts of analysts and investors. Despite the pandemic and the recession, many Japanese companies have reported robust profits and dividends, thanks to their cost-cutting, innovation, and diversification strategies. Some Japanese companies have also benefited from the global recovery and demand, especially in sectors such as technology, health care, and green energy.

A third factor is the improved corporate governance, which has enhanced the transparency, efficiency, and accountability of Japanese companies. Japan has implemented various reforms and initiatives to encourage its companies to adopt better governance practices, such as increasing the number of independent directors, reducing the cross-shareholdings, and increasing the return on equity. These reforms have attracted more domestic and foreign investors, who have recognized the potential and value of Japanese stocks.

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A Sustainable Outlook

Can Japan’s stock market sustain its outperformance in the future? The answer depends on how Japan’s economy and companies can overcome the challenges and seize the opportunities that lie ahead.

On the one hand, Japan’s economy may face more headwinds and uncertainties, such as the resurgence of the COVID-19 cases, the slow pace of the vaccination program, the postponement or cancellation of the Tokyo Olympics, and the possible escalation of the regional conflicts. Japan’s economy may also lag behind its peers, such as the US and China, which have implemented more aggressive and expansive fiscal and monetary policies to stimulate their growth and recovery.

On the other hand, Japan’s companies may continue to surprise and impress the market, with their resilience, innovation, and adaptation. Japan’s companies may also benefit from the new trends and opportunities, such as the digital transformation, the green transition, and the regional integration. Japan’s companies may also leverage their strengths and advantages, such as their quality, reliability, and reputation, to gain more market share and influence in the global arena.