Will China let Japan forget its 1980s bubble?

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After a dog-off-the-leash start to the year, Japan’s Nikkei 225 Average has advanced to within striking distance of the once untouchable-looking “bubble” high of 38,915 points reached on December 29 1989. 

At one time on Wednesday, the difference between current trading levels of the Nikkei and a history-making stride into the unknown shrank to just over 7 per cent — a distance that, with the market in this mood, could be eliminated before January is out.

There is, inevitably, a frisson around this proximity. And it is one that has focused attention both on how Japan got (back) here and how much it would mean for the country if its equity markets did, finally, beat that bubble. Less in focus is China’s potentially pivotal role in all this. A big new survey of Japanese companies suggests they may be ahead of the market in recognising this.

The Japan-specific reasons that the 1989 bubble high is within reach were building throughout 2023. Bank of America’s latest survey of global fund managers confirms that a positive number of asset allocators have entered the year with Japanese stocks overweight in their portfolios, and the justifications for that seem to keep coming. 

The optimism derives from factors including the return of inflation and wage growth after a near 20-year absence, the still weak yen, the now (following the January 1 Noto peninsula quake) more muted prospect of an imminent interest-raising move by the Bank of Japan and the broad sense that, at the nudging of the Tokyo Stock Exchange, an increasingly shareholder-friendly attitude is taking root at an ever larger proportion of listed companies. 

Also critical has been the government’s invitation to the public to join the bubble-beating party. From January 1, individual Japanese — who hold about ¥1,113tn ($7.5tn) of the nation’s household assets in cash — can invest up to ¥18mn each in tax-protected accounts. They are more likely to trust their savings to the stock market, say brokers, once the 1989 high has been surpassed, and that era’s demons decisively slain.

There are a number of ways, though, in which China — its population now in decline and its economy growing at one of the slowest paces in decades — could act as either propellant or decelerator of Japan’s bubble-beating ambitions.

One clear positive is that, for global investors now either unwilling (for economic reasons) or unable (for geopolitical ones) to invest in China, Japan represents a more viable alternative destination than it has for many years.

Buying Japan as Asia’s most liquid “not China” trade, say fund managers, remains a legitimate strategy. On the one hand, Japan’s is a market driven (for now) by interesting indigenous factors while China’s moulders. On the other, say analysts, many of Japan’s companies are better positioned through historic investment strategies to benefit from any surprise China rebound than their US and European counterparts, and as such represent a two-way bet. 

Another factor that could potentially benefit Japanese companies is the combination of the lead China has in electric vehicles and the colossal overcapacity and investment issues that overhang it. China’s pioneering EV makers are locked in a price war that will force some out of business while revealing the successful strategies and technology to the rest of the world. This may not be the worst moment for Japanese automakers to be on the sidelines taking notes.

On the negative side, Japan’s exposure to China — in particular its trio of property, youth unemployment and consumer crises — could become a significant drag. If, as economists increasingly expect, China’s manufacturing overcapacity results in the global export of deflationary pressure, Japan’s fledgling wage-boosting inflation could prove shortlived.

A survey of more than 1,700 Japanese companies, published this week by the Japan Chamber of Commerce and Industry in China, provides useful context for the questions that investors should ask as Japan’s 1989 bubble-era magic number approaches. Fifty-one per cent said China was either their most important market, or in their top three, while 78 per cent said that on policy and regulation in China they were either better off or no worse off than local Chinese companies. Some 39 per cent expect economic conditions in China to worsen in 2024, against a quarter who see some improvement. Just 15 per cent increased capital spending in China in 2023, while 25 per cent actively cut it.

Investors may see destiny knocking at the Nikkei’s door; Japan’s companies can see that the bursting of China’s bubble could yet delay Japan’s ability to finally forget its own.

leo.lewis@ft.com