Nikkei 225 index diverges with yen ahead of BoJ decision

The Nikkei 225 index has recoiled in the past few weeks. It is nearing a technical correction as it dropped by 8% from the year-to-date high of ¥42,438 to the current ¥39,154, its lowest swing since June 26th.

Stronger Japanese yen

The Nikkei 225 index has dropped sharply as the Japanese yen has strengthened in the past few days. The USD/JPY has dropped by over 4.47% from its highest point this year and is hovering at its lowest swing in June. 

A weaker yen is one of the top reasons why the Japanese stocks have jumped sharply this year since it makes it easier and cheaper for foreigners to buy. Recent data shows that foreigners have bought Japanese stocks worth over ¥7 trillion in the last 12 months.

The Japanese yen has strengthened recently because of interventions by the Bank of Japan, which has spent over $22 billion this year. It has also risen as investors anticipate that the Bank of Japan will hike interest rates in its meeting next week.

Some analysts anticipate a 0.15% interest rate hike while others see it rising by 0.25%. If it hikes, it will be the first time that the bank has implemented two rate hikes in a row in more than a decade. 

The rate hike hopes have pushed investors to start winding down their carry trades. A carry trade is a situation where investors borrow a low-yielding currency (yen) to invest in a higher-yielding one.

Traders will be watching the upcoming Tokyo inflation numbers that are scheduled on Friday this week. A strong inflation report will increase the probability of rate hikes in the country. 

Analysts are optimistic about Japanese stocks

Despite the current pullback, most analysts believe that Nikkei 225 index companies have more upside this year. 

First, Hiromi Namaji, the head of the Japan Exchange Group, has focused on boosting stock prices through a number of reforms. He introduced a name and shame system that lets investors push for more returns.

As a result, many companies, including Mitsubishi, Itochu, and Marubeni, have announced a big increase in dividends this year. More companies are expected to continue this trend in a bid to improve their price-to-book ratios.

Indeed, recent data shows that the valuation multiple has increased. Before the recent reforms, 53% of companies in the Topix index traded below book value, a figure that has dropped to 45%. 

Namaji hopes that these reforms will lead to more listings, especially by companies from Southeast Asian region.

Second, Japanese stocks are still relatively undervalued compared to their American counterparts. The Nikkei 225 index has a P/E ratio of 16.4, which is lower than the S&P 500 index average of 21. The weaker yen has made it more affordable to foreign investors who borrow the low-yielding yen to invest in these companies.

Third, the Federal Reserve is expected to start cutting interest rates later this year, possibly in September. US inflation is falling while the unemployment rate has risen to a two-year high of 4.1%. As such, the Fed is now more concerned about the country’s labor market instead of inflation. Japanese stocks do well when the Fed has embraced a more dovish tone.

Top Nikkei 225 stocks of 2024

Most companies in the Nikkei 225 index have done well this year. Banks have risen because the BoJ decided to hike interest rates and exit negative rates where they have been for over eight years.

Nomura stock has jumped by 46% while Shizuoka Financial Group rose by 26% and Concordia Financial, Sumitomo Financial, Mizuho, Chiba, and Mitsubishi Financial jumped by over 40%. 

The other top-performers in the Nikkei 225 index are Recruit Holdings, Orix T, Softbank Group, Konami, Japan Steel Works, Kawasaki Heavy Industries, and Resona Holdings.

Softbank Group, one of Japan’s biggest conglomerate has risen because of the ongoing technology stocks bull run. 

Nikkei 225 index forecast

Nikkei 225 chart by TradingView

The daily chart shows that the Nikkei index peaked at ¥42,438 in July and then suffered a harsh reversal to the current ¥39,154. It has slipped below the key support level at ¥41,070, its highest level on March 22nd. 

The stock has now moved to the 50-day Exponential Moving Average (EMA). Meanwhile, the Relative Strength Index (RSI) has moved below the neutral point of 50 while the two lines of the MACD have formed a bearish crossover. The bars of the MACD have remained below the zero line. 

Therefore, the Nikkei 225 index will likely remain on edge ahead of next week’s Bank of Japan (BoJ) and Federal Reserve decision. A drop below the ascending trendline that connects the lowest swings since April 19th will point to more downside ahead of the decisions. The index will then bounce back as investors target the key resistance point at ¥41,070.