Japanese stocks’ outperformance against global peers still has legs, thanks to rising share buybacks that are expected to reach the highest ever this fiscal year.

The blue-chip index Nikkei 225 was among the first major stock benchmarks in the world to erase its year-to-date loss last week as it climbed to a seven-month high.

Share buybacks have given Japanese stocks a new lease on life after they hit a low in March. NLI Research Institute and Jefferies Financial Group Inc. estimate that purchases may climb to a record high this fiscal year ending March 31. A solid earnings season in Japan means corporate coffers are replenished with more to spend. That contrasts with a slowdown in buybacks by American companies.  

“Buybacks underlie the strong balance sheet position of Japanese companies combined with the growing shareholder-friendly policies,” said Joshua Crabb, a fund manager at Robeco Hong Kong Ltd. “This highlights the self-help nature of the Japanese equity market that insulates it somewhat from the macro concerns.”

Japanese firms have bought shares for 19 straight weeks, taking purchases so far this year to a net 2.7 trillion yen ($19.8 billion), according to data from Japan Exchange Group Inc. Honda Motor Co. Ltd., Canon Inc., Hoya Corp. and Denso Corp. all announced buybacks when releasing earnings. 

Chizuru Morishita, a researcher at NLI Research Institute, expects total buybacks for the fiscal year to match or surpass last year’s all-time high of 8 trillion yen ($59 billion). Jefferies analyst Shrikant Kale says they may exceed 10 trillion yen for the first time.

This is likely to give Japanese stocks another leg up. The Nikkei 225 is expected to rise by 11% over the next 12 months, based on analysts’ consensus target price for all index members, data compiled by Bloomberg show. That matches the gains seen in the S&P 500.

“Capital allocation is a key topic of discussion when we meet management teams of companies we invest in,” said Hisashi Arakawa, deputy head of investment management in Japan at abrdn. “It is positive to see that Japanese companies continue to return excess capital to shareholders.”

Of course, it’s not just buybacks that have propelled Japanese stocks to a multi-month high. The market owes a lot of its strength to a rally on Wall Street which has been fueled by optimism that US inflation may have peaked. 

Green on the Screen for Japan Stocks May Soon Fade: Macro View

Several factors may derail the gains in Japan’s stocks, however. The sustainability of a recovery in Japan’s corporate profits is in question amid growing signs of a global slowdown. Additionally, the yen may pull further away from a 24-year low reached last month, and this will erode exporters’ earnings. 

The Topix index slid as much as 0.9% Monday as global shares fell amid worries that US officials may reaffirm their commitment to aggressive tightening at a gathering in Jackson Hole this week.

Valuation Factor

Still, some say there’s reason to be optimistic given that Japanese equities remain relatively cheap. The Topix Index is trading at 12.5 times its expected earnings in the next 12 months, compared with the 10-year average of around 13.8 times.

Masayuki Murata, general manager of balanced portfolio investment department at Sumitomo Life Insurance Co., is among the optimists. He remains positive on Japanese shares and has shifted back to growth stocks in recent months.

“The important point is what to make of the fact that Japanese companies are starting to raise prices — something people have been longing for for decades,” said Murata. “I have some hope that Japan is getting out of that quagmire where price hikes are impossible.”

SOURCE :- bloomberg