Virus Resurgence Leaves Nikkei 225 on the Retreat From 30,000

(Bloomberg) -- The euphoria of the Nikkei 225 Stock Average’s rally to a three-decade high earlier this year is fading fast.

The 30,000 mark is now looking distant after the blue-chip gauge extended a two-day slump to 4% on Wednesday, taking losses since it reached a 30-year peak in February to 6%. Dreams earlier this year that Japanese equities might finally challenge their all-time highs have been put on hold.

The sell-off has been triggered by a number of factors. Japan’s government is likely to declare another state of emergency amid a surge in coronavirus cases, while the country lags behind other major economies in the distribution of vaccines. Making matters worse, the Bank of Japan is dialing back its buying of exchange-traded funds and some investors are rotating out of value shares.

“For equities to aim for new high ground, the economy needs to recover its activity levels to those seen during the pre-virus days,” said Ayako Sera, a market strategist at Sumitomo Mitsui Trust Bank Ltd. in Tokyo. “This would take more than a year -- more like a year and a half, or two.”

Olympic Impression

Japanese Prime Minister Yoshihide Suga plans to decide in the next few days whether to declare a state of emergency in Tokyo, Osaka and other areas, looking to ramp up restrictions to contain a surge in virus cases just three months before the start of the Olympics.

Pushing forward with the delayed Games could leave a negative impression on Japanese equities for foreign investors, said Mitsushige Akino, a senior executive officer at Ichiyoshi Asset Management in Tokyo.

“The government isn’t likely to call off the Olympics anytime soon,” said Akino. “But if they do decide to go on with the Olympics even when circumstances don’t support it, foreigners will view Japan as a country that isn’t capable of dealing with emergency situations.”

For Frank Benzimra, head of Asia equity strategy at Societe Generale in Hong Kong, the recent underperformance of Japanese stocks has more to do with the “pause” in value trades than the pandemic. “With value again underperforming growth over one month, we find Japan underperforming,” he said.

Overseas investors, who were expected to restore their interest in Japanese equities following years of selling, have yet to show significant demand. While they bought about 1.7 trillion yen ($15.7 billion) of local equities in the cash market this year through April 9, they’ve offloaded about 1.6 trillion yen in stock futures during the same period, according to Japan Exchange Group.

‘Temporary’ Correction

Exacerbating declines was the BOJ’s absence from the ETF market on Tuesday, despite a 1.2% drop in the Topix during the morning session. That was the first time since at least 2016 that the central bank didn’t buy ETFs after such a drop. In March, the BOJ scrapped its annual purchase target in favor of a more flexible approach.

“The market is taking this as a cut in monetary easing,” said Tomo Kinoshita, a global market strategist at Invesco Asset Management in Tokyo. “We’re at a stage where we could experience some pain as things head toward normalization.”

After a much larger drop of 2.2% on Wednesday, the BOJ did step in to buy 70.1 billion yen of funds.

Nonetheless, many don’t view this week’s downturn as a sign of a complete reversal in the upward trend for Japanese stocks.

“Any downward correction will likely be temporary,” said Kinoshita. “It’ll be a bit of a different story if U.S. stocks fall too, but otherwise I expect local stocks to trade sideways for a while.”

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