Japan’s stock market barely grew for decades. Now it’s booming

Kuala Lumpur, Malaysia - For decades, international investors shunned Japan's stock market, whose poor returns reflected the country's long-standing economic stagnation.

These days, Japanese stocks are the hottest play in town, as the Nikkei 225 index hits a 34-year high.

After weathering Japan's "lost decades" following the collapse of a massive asset bubble in the 1990s, Tokyo's benchmark index gained 28.2 percent last year, handily outperforming the U.S. S&P 500. .

There are no immediate signs that the buying frenzy is slowing.

In January, the Nikkei 225 rose another 8 percent, and foreign investors bought a net 956 billion yen ($6.5 billion) in Japanese stocks in the span of a single week.

Some market analysts believe that 2024 could be the year the Japanese stock market finally surpasses its 1989 high of 38,915.87.

For Japan, the world's third-largest economy, it has been a “dramatic recovery story,” said Nicholas Smith, Japan strategist at investment group CLSA.

“Profitability is rapidly recovering from depressed levels. Earnings growth surges while others stumble. Price/earnings are relatively low and growth is high,” Smith told Al Jazeera.

"What's not to like? Companies are starting to return their cash to shareholders."

For foreign investors, a confluence of factors has made Japanese companies look more attractive than they have in decades.

Recent corporate governance reforms driven by the Tokyo Stock Exchange have led Japanese companies to seek to increase shareholder returns through share buybacks and increased dividend payments.

A weak yen, hovering around its lowest levels since the 1990s, has boosted corporate profits and made Japanese stocks, already cheap by international standards, even more valuable.

Billionaire investor Warren Buffett, the most prominent booster of Japanese stocks, cited the “ridiculous price” he was offered for stakes in Japan's five largest trading companies as a reason for buying $6 billion of their shares during the COVID-19 pandemic.

Under Prime Minister Fumio Kishida's “new capitalism” push, Tokyo has also tried to encourage a shift from savings to investment, relaunching its Nippon Individual Savings Account (NISA) program with higher annual investment limits and extended exemption periods. of taxes.

There have also been signs that the Japanese economy may finally be beginning to emerge from its decades-long deflationary spiral, and last year workers saw their The largest wage increases since the early 1990s..

Ryota Abe, an economist at Sumitomo Mitsui Banking Corporation's (SMBC) treasury and global markets unit, said expectations that wage growth will continue to rise have been the biggest of several drivers of the stock market rally.

"Recent events suggest that what has changed most in society is that business leaders in Japan have begun to more seriously contemplate the need for steady wage growth given the inflation situation and corporations," Abe told Al Jazeera.

Japanese stocks have also benefited from the lagging fortunes of other markets, particularly China.

As China's economy faced challenges ranging from Beijing's crackdown on private industry to a slow-moving housing crisis last year, foreign investors withdrew $29 billion from the Chinese stock market, wiping out 90 percent of incoming investment in 2023.

Still, analysts differ on how long Japanese stocks' boom could last.

Martin Schulz, senior researcher at the Fujitsu Research Institute, said Japan's stock market has the potential to continue generating strong returns as corporate leaders push for greater productivity and higher shareholder payouts.

"While upside is limited in a slow-growing economy, leading companies benefiting from long-term trends such as digitalization, renewable energy and Asian economic integration still lag their peers in valuation" Schulz told Al Jazeera. "They have room to grow."

Others see a decline on the horizon.

The yen is expected to rise significantly against the dollar this year as the US Federal Reserve begins to cut interest rates, which would undermine the affordability of Japanese stocks.

Taiki Murai, a doctoral researcher at the Economic Policy Institute at Leipzig University, said Japan's appeal will fade as business confidence improves in the United States and Europe in a lower interest rate environment.

"As a result, international capital flows would likely leave Japan in search of higher returns," Murai told Al Jazeera.

There are also divergent views on the extent to which Japan's stock rally heralds a broad-based economic revival.

After promising signs in 2023, wage growth has stalled recently. Structural problems, including a shrinking population and a rigid labor market that has resisted reform, continue to cloud long-term growth prospects.

CLAS' Smith expressed optimism about the direction of recent economic trends.

"The government, ministries and shareholders are working together in a way I have never seen before in my 35 years in the country," he said.

Murai, a researcher at Leipzig University, said the strong performance of the stock market does not eliminate the serious challenges facing the Japanese economy.

“Prime Minister Fumio Kishida's new capitalism has postponed comprehensive structural reforms of the Japanese economy. Shinzo Abe, former prime minister, had also included structural reform in his 'Abenomics' economic policy package, but only fiscal and monetary expansions were implemented,” he said.

"Furthermore, there has been little to no positive news from the Japanese business sector on innovation."

Abe, an economist at Sumitomo Mitsui Banking Corporation, said the outlook for the economy will become clearer after wage negotiations between companies and employees in the spring.

"We need to continue to monitor real spending and wage growth in the latter part of this year so that we can see the virtuous cycle between wages and spending in the economy," Abe said.

"I want to see more changes in the deflationary mentality among the Japanese," he added. "If this is the case, I will have more confidence in the rise of stock prices."