Japan stocks may extend gains even if yen rebounds

Japanese equities are expected to maintain their upward trajectory under new Prime Minister Sanae Takaichi, even with potential yen appreciation, as market momentum is now driven by broad sector strength rather than solely currency weakness. Analysts, including Capital Economics, anticipate continuity with pro-growth "Abenomics" policies and further Bank of Japan rate hikes, which could strengthen the yen but are unlikely to derail the rally. This resilience is attributed to strong performance in technology, industrials, and financials, benefiting from improving domestic growth and higher Japanese government bond yields.

Analysis

The election of Prime Minister Sanae Takaichi is expected to ensure continuity of pro-growth "Abenomics" policies, initially supporting the Nikkei. Crucially, Japanese market momentum has transitioned from reliance on yen weakness to broad sector strength, demonstrated by its local-currency outperformance against the MSCI World Index since early April despite a stable yen.

This resilience is underpinned by robust performance in technology, communication services, industrials, and financials. Industrials benefit from a competitive currency, improving domestic growth, and a US trade deal, while financials are gaining from higher Japanese Government Bond (JGB) yields due to Bank of Japan (BOJ) tightening.

Capital Economics forecasts the BOJ will implement more significant rate hikes than currently priced in, potentially leading to yen appreciation. However, this is not expected to derail the equity rally, as big tech, industrial exporters, and financials are projected to remain resilient, and the BOJ's gradual equity purchase exit is unlikely to heavily impact sentiment.

Key Decisions for Investors

• Investors should consider maintaining or increasing exposure to Japanese equities, given the shift to broad sector-driven momentum and policy continuity.
• Prioritize sectors such as industrials, technology, and financials, which are identified as key drivers of resilience and growth.
• Closely monitor the Bank of Japan's monetary policy trajectory and its impact on JGB yields and the yen, as these will be critical for sustained market performance.