Japanese equities: Learning to navigate a new equilibrium

In local currency terms, the Nikkei has delivered little fresh momentum, even as forward earnings estimates have risen by approximately 11% year-on-year¹, reflecting a market where price action and fundamentals have temporarily diverged.

Foreign interest, which reignited briefly in 2023, has since receded. But this should not be mistaken for structural weakness. Investor behaviour often lags reality. In Japan’s case, that lag is amplified by long-held muscle memory: for decades, the market was viewed as a high-beta play on global growth, cyclical and geared to external demand. That framing no longer fits, but the perception persists.

“That framing no longer fits, but the perception persists”.

Global policy shock: The real market risk

Today, the headwinds facing Japanese equities stem not from domestic fragility, but from the broader macro environment. A resurgent US dollar, stubborn global inflation, and hawkish signals from the Federal Reserve have left risk assets globally in a holding pattern. Most disruptive of all, however, has been the sharp escalation in tariff rhetoric.

Recent shifts in trade policy have created market volatility. The impact extends beyond direct trade effects to broader questions about global economic coordination and policy predictability. Whether one agrees with the policy direction or not, the pace and scope of implementation have created market uncertainty. Such rapid policy shifts, while potentially effective, require careful navigation by market participants.

What makes this episode unique is its policy-driven nature. Unlike organic economic shocks, these developments are subject to revision – creating both uncertainty and opportunity. For now, we are maintaining a disciplined approach and watching closely for clearer signs of asymmetry between risk and reward before repositioning.

Japan’s edge: Depth, discipline and dispersion

Amid global uncertainty, Japan’s equity market stands out for its depth and discipline. Unlike in the US, where performance has become increasingly concentrated among a handful of ultra-large tech names, Japan offers breadth. Opportunity is dispersed across sectors and company sizes, giving investors a broader base of fundamentally sound businesses to work with.

Balance sheets are clean, leverage is low, and corporate behaviour is changing in ways that support long-term value creation. Capital discipline is no longer a slogan, it is becoming embedded. Share buybacks and dividends are tracing toward record highs² once again, and return on equity is meaningfully improving across the board. The number of companies achieving both Return on Equity (ROE) and Earnings per share (EPS) growth above 8% has doubled since 2019³.

Crucially, these reforms are not just externally imposed. While the Tokyo Stock Exchange’s governance push has added urgency, many of the most profound changes are internally driven. Companies are rethinking strategy, shedding legacy inefficiencies, and taking control of their balance sheets.

Unlocking value from within

A defining feature of this transformation is a renewed focus on value-unlocking behaviours. Companies are unwinding cross-shareholdings, improving disclosures, and rationalising non-core assets. Many are embracing M&A, not as empire-building, but as a strategic tool to enhance scale, efficiency, or competitiveness. Some are even monetising underutilised real estate, an often-overlooked source of hidden value in corporate Japan.

These shifts, once rare, are now part of a wider behavioural reorientation. We see growing confidence among management teams and boards – a sense that capital has a cost, and value must be demonstrated, not assumed. That kind of cultural shift is powerful, because it compounds.

New regime, not a new risk

Closer to home, the Bank of Japan’s cautious exit from negative interest rates has prompted healthy debate about the implications for funding costs and asset valuations. But we see these as tactical challenges, rather than structural flaws. Real interest rates remain negative (10-year Japanese Government Bonds yield ~1.0% vs national CPI ~2.2%, as of April 2025)⁴, and inflation, while elevated by Japan’s standards, is being driven by constructive forces: wage growth, pricing power and domestic demand. This is no longer a country fighting to escape deflation. It is a country learning how to operate in a new equilibrium.

A quiet revolution worth watching

The global backdrop remains uncertain. Tariffs may escalate, or be rolled back. Policy mistakes could trigger recession, or be reversed before lasting damage is done. Markets remain at the mercy of political decisions, not economic inevitabilities.

But in Japan, something quieter, and more durable, is taking root. Corporate Japan is changing. It is becoming more accountable, more efficient, and more outward-looking. These are not cyclical traits. They are foundational ones. They support the case for durable, compound returns over time.

This is the Japan we are investing in. Quietly, deliberately and with a long-term lens.

* This article was first published, in Chinese, in the Hong Kong Economic Journal.

¹ Bloomberg, ‘Consensus estimates’, (bloomberg.com), March 2025
² Tokyo Stock Exchange, ‘Data and corporate filings’, (jpx.co.jp), May 2025
³ Bloomberg, ‘Screening of TSE-listed companies, 2024 vs. 2019’, (bloomberg.com), January 2025
⁴ Bank of Japan and Japan Statistics Bureau, ‘Macroeconomic data’, (boj.or.jp / stat.go.jp), 2025