Wealth Strategies

Japanese Market’s Upside Potential: Vaccination Progress, Rising Rates

Junichi Takayama, 9 June 2021


This article argues that the Japanese market, which is lagging major peers amid a slow vaccine roll-out and the restrictions, has upside potential as health treatments gather pace.

Here is a guest commentary from Nikko Asset Management examining the potential upside in the Japanese market as the country seeks to exploit progress in its vaccine rollout - after a slow start - and rising interest rates.

The article is written by Junichi Takayama, investment director at Nikko Asset Management. The editors are pleased to share these views and invite readers’ reactions. Jump into the conversation! Email tom.burroughes@wealthbriefing.com and jackie.bennion@clearviewpublishing.com

While the Japanese equity market managed to rebound strongly in 2020 after a sharp fall at the start of the pandemic, it has lagged its peers in 2021 amid the country’s struggle to contain COVID-19 and its slow rollout of vaccinations. However, the rollout of vaccines is gathering pace after a slow start. Japan’s dividend yields are also showing potential appeal amid a rising interest rate environment.

Despite initial post-COVID-19 recovery, a fourth infection wave looms over Japan stocks
The Japanese equity was hit hard by the outbreak of the COVID-19 pandemic at the start of 2020 and dropped sharply in tandem with its global peers. Japanese equities kept abreast with a subsequent rebound by global markets enabled by aggressive monetary and fiscal policies in large economies, notably the US. By Q4 2020, the Japanese equity market had recovered to its pre-pandemic level, thanks in part to its relatively low level of coronavirus cases, which did not require the strict lockdown measures that were taken in other parts of the world. A recovery in external demand from the US and China, Japan’s two largest trading partners, also boosted the recovery and the domestic equity market performed strongly in 2020.


Source: Bloomberg, as at 13 May 2021

The specific factors that contributed to the rebound by Japan’s TOPIX index are summarised in Chart 2. We have split the time horizon into two parts. The blue bars indicate the sector return contribution in 2020 and the orange bars indicate the same contributions made so far year-to-date. The green line indicates the contributions for the entire period.


We highlight three key observations from Chart 2.

1.     The Japanese equity market’s strong performance in 2020 was driven by IT and communication services (which includes software and other IT service companies), while financials were a drag due to expectations that interest rates would remain low.

2.    Sectors such as financials, real estate, utilities and energy followed identical patterns. These sectors were hit hard by the pandemic in 2020 but have been rebounding since the beginning of 2021. This is due to a shift in the market which led to sector rotation, with investors picking up some stocks that had been oversold.

3.    Technology names have been quiet so far in 2021. Despite a strong start to Q1, recent weakness in the market has wiped out all the gains. 

We think that the Japanese market’s recent underperformance relative to its global peers is due to a fresh wave of COVID-19 infections in the country and Japan’s slow vaccine rollout.

Japan’s vaccination effort has been slow but it has started to step on the gas
Many of Japan’s major population centres are under a state of emergency with the government is trying to contain a fourth wave of a coronavirus outbreak. The state of emergency was effective through 31 May, but has recently been extended into June as new coronavirus variants have become more dominant. The weakness of the Japanese market has coincided with the latest wave of COVID-19 infections, but we believe that vaccinations will play a key role in revitalising the market.

We can identify two main reasons for Japan’s slow rollout. First, it has so far been unable to develop its own vaccine and is therefore reliant on imports; in other words, it essentially needs to wait until vaccine-producing countries have finished inoculating their own populations. Japan is home to some pharmaceutical companies with the potential ability to develop COVID-19 vaccines. However, the government, unlike its peers in countries such as the US, failed to swiftly provide Japanese pharmaceutical companies with the incentives for speedy vaccine development.  

Second, Japan has a particularly onerous approval process for pharmaceuticals - due to numerous drug disasters in the past - which considerably slows the development and import of vaccines.

Japan, however, is starting to step on the gas. Following a sluggish start, vaccination in Japan is finally gaining momentum (Chart 4). State-run mass vaccination centres were opened in Tokyo and Osaka, Japan’s two largest cities, on 24 May, with the government recruiting the country’s military to operate the venues. Local governments in other areas are also planning to set up their own mass vaccination sites, with baseball stadiums considered as potential venues. Stringent regulations are also being softened so that Japan can deal with a shortage of eligible medical staff allowed to administer shots. Furthermore, Japan, where only the Pfizer coronavirus vaccine had been approved, gave the green light to the Moderna and AstraZeneca vaccines on 21 May.


We believe that the Japanese equity market will be in a good position to benefit once a significant amount of vaccines are rolled out, permitting the re-opening of the economy. 

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