Japan stocks are roaring back. This rally may be different from the 1990’s ‘bubble high’

Japan’s stock markets have been testing new highs not seen since 1990 — evoking memories of its “bubble economy” right before the country plunged into its so-called “lost decade.”

Since late May, the Nikkei 225 has breached the 30,000 mark, a feat not seen in 33 years.

To be clear, the benchmark index is still about 18% below its all-time high, when the Nikkei hit 38,915 on Dec. 29, 1989.

The bubble burst after the Bank of Japan tightened monetary policy at the start of 1990, triggering the collapse of equity and land prices. By September that year, the Nikkei index crashed to just half its record high.

But analysts who spoke to CNBC said Japan is not headed for another crash like the one during the bubble.

“It is very difficult to argue that Japan is facing the same situations as in the late 1980s,” said Dong Chen, head of macroeconomic research at the private bank Pictet.

Ryota Abe, an economist with the global markets and treasury department at Sumitomo Mitsui Banking Corporation, shared the same sentiments.

“We do not see a bubble in the economy,” he said, pointing out that while real estate prices in metropolitan Tokyo have skyrocketed and inflation rates are at the highest in decades, it is not a nationwide phenomenon but is only seen in some areas in Tokyo.

Furthermore, “current high inflation rates in Japan are due to higher import costs on the back of a weaker yen and high commodity prices. We cannot call it a bubble,” Abe added.

The Bank of Japan’s interest rates then were at 2.5% — its lowest since the central bank transited to a floating exchange rate in the early 1970s.

Low borrowing rates fueled speculation, which drove up stock markets and led to an asset price bubble.

As the BOJ raised interest rates, the world’s third largest economy plunged into a decade-long crisis that came to be known as “Japan’s lost decade” — a period of slow to negative economic growth that continues today.

Over the last two decades, Japan’s GDP grew by an average of 0.7% from 1991 to 2011, and from 2011 to 2019, Japan’s GDP grew just under 1%.

In addition, more Japanese firms have bought back their stocks in response to the Tokyo Exchange Group’s push for greater capital efficiency.

Nikkei reported in March that share buybacks by Japanese companies was set to reach their highest level in 16 years.  

A June 23 report by Nikkei found that capital investment by Japanese companies is set to hit a record 31.6 trillion yen ($221.03 billion) in the 2023 fiscal year.

The report said domestic investments — at around two-thirds of the total — are expected to see double-digit percentage growth for the second straight year, while overseas investment could increase by 22.6%, marking a third straight year of double-digit expansion.

Chen said it means Japanese companies may have broken out of the so-called “balance sheet recession” mentality, where households and businesses aimed to reduce debt, instead of engaging new investment.

“Now we’re seeing the opposite, meaning they’re actually investing because they haven’t invested for so long … we think this trend probably can last longer.”

Foreign investors have also taken a renewed interest in the world’s third largest economy.

Japan’s economic recovery has started, and there have been notable changes in the business environment — such as higher wage growth in 2023, Abe from SMBC pointed out.

Overseas investors have found opportunities in Japan, thanks to the lower value of the yen and possible higher upside potential for equities.

Billionaire investor Warren Buffet’s bullish outlook on Japanese equities has also piqued investor interest in Japan.

There are also external factors boosting optimism about Japan.

Global companies are now diversifying supply chains away from China, and Chen said Japan could benefit as one of the destinations to reshore supply chains, “particularly in the very high end, more technologically dense sectors like semiconductors.”

“All these things are pointing to the right direction, we think that there are reasons to be more structurally positive about Japan than before,” he added.