Japanese Stocks: Why I Believe It Is Time to Shift Somewhat from Large-Cap to Small- and Mid-Cap Stocks (Kubota Masayuki (窪田真之))

Japanese stocks have entered a declining phase as rising interest rates in Japan and the US weigh on sentiment. The factors cited as selling catalysts include a temporary rise in long-term interest rates to 3%, expectations of additional rate hikes in the US, and the prospect of rate hikes by the Bank of Japan.

Regarding the Nikkei 225's performance, the view presented is that the index is declining again against the backdrop of the composite shock that occurred in July, including concerns about excessive investment in AI and semiconductors, a prolonged crisis in the Middle East, and concerns about inflation and rising interest rates, taking into account weekly trends since the end of 2023 and the status of major earnings announcements.

Sharp fluctuations in AI- and semiconductor-related stocks are affecting the Nikkei 225, and the semiconductor stock index and TOPIX have shown divergent performance. TOPIX is observed to have traded more steadily than the Nikkei 225.

The author notes that although Japanese stocks remain undervalued over the long term, rising interest rates, a renewed crisis in the Middle East, and concerns about excessive investment in AI are likely to weigh on the market in the short term. The author concludes that this is the time to reduce the weighting of large-cap stocks and increase that of small- and mid-cap stocks.

The three reasons cited are: (1) the historically observed cycle between periods of large-cap and small- and mid-cap outperformance, (2) the possibility that interest rates will continue to rise in Japan, and (3) progress in the Tokyo Stock Exchange's corporate governance reforms. The view presented is that requests for disclosure from companies trading below a PBR of 1 and the increase in share buybacks could prompt a reappraisal of small- and mid-cap stocks.