Easing prices in Japan support more positive economic outlook

Quarterly Market Overview Q3 2023 | Japan

Japanese shares gained during the quarter, benefiting in part from continued monetary policy support during the period. The annual core inflation rate, which in Japan excludes fresh food prices but still includes fuel costs, eased from 3.3% in June to 3.1% in July and was unchanged in August. This supported the Bank of Japan’s (BoJ) stance that pricing pressures were gradually moderating. Leaving its short-term interest rate unchanged at -0.1% in September however, the BoJ suggested that it was in no rush to phase out its hitherto massive monetary stimulus, with BoJ Governor Kazuo Ueda noting that “we have yet to foresee inflation stably and sustainably achieve our price target”. On economic growth, Japan’s second-quarter GDP expanded by an annualised 4.8% and a notable pick-up from the first quarter’s 3.2% growth rate, helped by robust exports. Looking ahead, a government survey of large manufacturing companies for the third quarter of 2023 indicated that business conditions for the sector were improving, although caution around higher import costs and raw material prices remained.

Our view

We have a neutral outlook for Japan equities. Market performance has been supported this year by hopes that after years of false dawns around stock market reforms in particular, we might have finally reached a tipping-point. For Japanese listed companies with a market price below the book value of their net assets, the Tokyo Stock Exchange earlier this year tasked them to ‘disclose policies and specific initiatives for improvement’. Additionally, a welcome reemergence of inflation after years of stagnation has buoyed the outlook for the country’s financial sector. As such, Japanese banks might be expected to see a margin benefit from the recent re-pricing higher of longer-dated bond yields. Balancing hopes for better corporate governance and capital allocation, Japan still has well-documented structural headwinds: high public debt levels and a declining and aging population. These provide an unwelcome backdrop for the BoJ as it might look to unwind decades of unconventional monetary policy, following which the central bank owns around half of the Japanese government bond market.