Japanese Stocks Carrying Momentum Toward May Peak on Yen

Japanese stocks are poised to surpass this year's high set in May as a stronger U.S. economy weakens the yen and Prime Minister Shinzo Abe's reflation policy leads to wage increases, according to BNP Paribas Investment Partners SA and SMBC Nikko Securities Inc.

Japan's Nikkei 225 Stock Average capped a 7.7 percent jump last week, the steepest rally in almost four years, after Janet Yellen, the nominee to succeed Ben S. Bernanke as Fed chairman, said she will ensure bond-buying isn't ended until she sees a robust recovery. A 3.1 percent gain would take the equity gauge past a 5 1/2-year high reached May 22. The yen dropped past 100 versus the dollar last week for the first time in two months.

"U.S. quantitative easing will be reduced eventually, but that won't have much of a negative impact because it happens on the back of the strong economic recovery," said Gentoku Kiyokawa, Tokyo-based head of the Japanese investment management department at BNP Paribas. "Japanese stocks will keep climbing toward their May high and pass that level by the end of this year."

Japanese equities surged the most among developed markets in 2013 as policy makers at home and in the U.S. bolstered growth with unprecedented stimulus measures. The rally petered out last month as investors weighed the impact of a sales-tax increase on the domestic economy and stronger U.S. data that signaled the Fed may pare asset purchases sooner. BNP Paribas' bullishness contrasts with Saison Asset Management Co. and Sompo Japan Nipponkoa Asset Management Co., which say Japanese stocks are now rising too far, too fast.

Biggest Gains

Pioneer Corp. led gains on the Nikkei 225 (NKY) last week, surging 20 percent as the maker of car stereos posted an operating profit of 569 million yen ($5.7 million) for the six months ended September. Analysts had expected a 2.5 billion-yen loss, according to estimates compiled by Bloomberg. Fast Retailing Co., Asia's biggest apparel chain and the stock with the heaviest Nikkei 225 weighting, jumped 16 percent.

The broader Topix index climbed 5.3 percent in the five days through Nov. 15, with brokerages leading an advance by all 33 of the gauge's industry groups. The Standard & Poor's Index rose 1.6 percent in the U.S. on the week, gaining to an all-time high after Yellen said the economy and labor market are performing "far short of their potential" and must improve before the central bank can begin reducing monetary stimulus.

As well as watching the Fed, investors in Japan are weighing whether Prime Minister Abe will succeed with the so-called third arrow of his program dubbed Abenomics. The strategy, which has so far relied on increased government spending and a doubling of monthly bond buying by the central bank to more than 7 trillion yen, helped spur the Nikkei 225's 46 percent advance this year.

Rally Catalysts

The Bank of Japan, which holds a two-day meeting this week, has pledged to achieve 2 percent inflation in two years. Large Japanese companies will boost winter bonuses by 5.79 percent this year, the most since 1990, according to the preliminary results of a survey released on Nov. 13 by the Keidanren business lobby group.

"Catalysts for Japanese stocks are how convinced people will be about further monetary easing by the BOJ and wage increases," Ryota Sakagami, chief strategist at SMBC Nikko Securities in Tokyo, wrote in a note on Nov. 15. "They are likely to happen sooner or later. Now Japanese shares are rising on back of the stable global economy, the market might as well start pricing in those catalysts earlier."

Sakagami expects the Topix to rise to 1,350 at the end of this year, 9 percent higher than its Nov. 15 close and a level unseen since June 2008.

Less Bullish

Not all investors are as bullish.

The rally in Japanese stocks will reverse if optimism about the Fed's policy starts fading, said Tetsuo Seshimo, a Tokyo-based portfolio manager at Saison Asset Management, which oversees about 78 billion yen. The Nikkei 225 plunged 20 percent after Bernanke in May mentioned the possibility of tapering.

While pledging her support for stimulus, Yellen also reassured U.S. lawmakers last week that she does not see the era of low interest rates and quantitative easing continuing indefinitely.

"The picture is exactly the same this time, and the market will collapse if there's talk about the Fed's tightening," Seshimo said. "The current rally has been solely based on U.S. monetary easing. That worries me."

Prices for Japanese equities already reflect the U.S. economic recovery and Yellen's support for longer stimulus, leaving them vulnerable to declines, said Goya Nakao, a senior investment manager at Sompo Japan Nipponkoa Asset.

Correction Coming

"Cherry-picking in the share market won't last long," Nakao said by phone on Nov. 15. "Stocks won't be able to avoid having a correction in the near term and the Nikkei will go back to a range between 14,000 and 15,000."

The Nikkei 225 last week climbed above 15,000 for the first time since May and closed on Nov. 15 at 15,165.92. The measure was little changed at 15,164.30 at the close today in Tokyo, while the Topix added 0.2 percent to 1,241.67.

Foreign investors are more optimistic, adding Japanese stock positions in the week through Nov. 8 for the fourth increase in five weeks. They've sunk $111.3 billion into the market this year, Finance Ministry data show.

Japan's equities are benefiting from a sliding yen, with the nation's currency capping its third consecutive weekly drop against the greenback and trading past 100 per dollar on Nov. 14 for the first time since Sept. 11. The yen traded at 100.08 against the greenback today.

A weaker yen boosts the value of overseas revenue for Japanese exporters. Of the companies on the Topix that have reported quarterly earnings this season and for which Bloomberg compiles estimates, 61 percent exceeded analysts' profit expectations.

The currency's decline may send Japanese stocks above the May high by year-end, according to Kazuyuki Terao, Tokyo-based chief investment officer of Allianz Global Investors Japan Co.

"I thought the yen would stay in its stalemate, but it fell below 100 per dollar, which is big," Terao said. "Once confidence builds in the yen's downtrend, I think exporters will be bought more."