Bank of America says Japan's equity market resembles the late-2023 rally that followed the Federal Reserve's pivot toward rate cuts, as a U.S. Treasury buyback expansion eases pressure on long-term yields. The bank warns the setup differs in key ways — a weak yen, Middle East tensions and expected Bank of Japan rate hikes — meaning stronger fundamentals, not falling rates, will have to drive the next leg higher.
Japan's stock market could be entering a phase similar to the late-2023 rally that followed the Fed's pivot toward rate cuts, as a sharp rise in U.S. long-term Treasury yields eases, Bank of America said in a Japan equity strategy report dated Aug. 20. Yet the bank cautioned that stronger fundamentals, not falling rates alone, will be needed to sustain gains this time.
Treasury buybacks echo 2023 conditions
The U.S. Treasury will raise the cap on its buybacks of longer-dated government bonds to at least $4 billion per operation from $2 billion, covering securities maturing in 10 to 20 years and 20 to 30 years between Sept. 9 and Nov. 4. The move echoes November and December 2023, when long-term U.S. yields fell sharply as economic data weakened, inflation slowed and markets began pricing an end to Federal Reserve rate hikes. Japanese equities rose toward year-end back then despite a significant appreciation in the yen.
But BofA sees a different backdrop
This time, the yen has remained weak despite coordinated foreign-exchange intervention, and Middle East turmoil has replaced the sharp oil-price decline seen in late 2023. A manufacturing recovery could also drive both higher Japanese corporate earnings and higher interest rates, while expectations that the Bank of Japan will accelerate its rate hikes mean it may be premature to assume rates have peaked.
BofA said the larger Treasury buybacks could keep long-term yields from rising unchecked, but without a material shift in fundamentals, yields could stay elevated — leaving Japanese equities in an environment of profit growth combined with rising interest rates, rather than the falling-rate backdrop that supported the 2023 rally.
Stock picking over momentum
BofA expects the market to shift gradually from momentum- and beta-driven gains toward greater stock selection. The bank urged investors to be selective among artificial-intelligence-related shares based on earnings and valuations, while highlighting IT services, gaming and intellectual-property companies that lagged the AI rally but posted strong first-quarter results.
Domestic-demand stocks could benefit if the yen stabilizes, and small- and mid-cap growth names could recover if the currency stops weakening. BofA expects value stocks to keep their advantage as long as interest rates continue to rise. The bank noted that most of these themes resemble the November-December 2023 market, but concluded the overall environment is likely to favor stock pickers rather than another broad, momentum-led rally.
Source: Investing.com
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