Weekly market commentary

The Bank of Japan this month showed its gradual policy normalization is pushing ahead while avoiding the volatility it sparked last year. Japanese stocks are still one of our favorites. Japan’s corporate governance reforms are translating into tangible shareholder gains: improved performance and rising share buybacks. We stay overweight Japanese equities. Recent AI investment developments also reinforce why a mega force lens is key for spotting return opportunities.

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Foreign investors step in
Holdings of Japanese shares by investor category, 1970-2024

Corporate reform is delivering measurable results for shareholders in Japan. The chart shows the steady decline in corporate cross-shareholdings — once used by Japanese companies to cement ties with peers, but a practice that discouraged outside investors or allowed companies to resist pressure to improve performance. These holdings have fallen sharply. See the chart. The upshot? It is opening the market to more genuine ownership and stronger incentives to boost returns. Share buybacks — one of the earliest and clearest signs of reform momentum taking root — have surged as companies respond to rules pushing them to return cash rather than hoard it. In the first eight months of this year, buybacks already nearly equal last year’s total — which itself was more than double the highest annual level in the decade before 2023, according to corporate data compiled by Nomura.

Our long-held preference for Japanese equities over government bonds has delivered this year: the MSCI Japan is up over 14%, while the Japanese government bond index is down over 4%, according to LSEG data. Corporate return on equity (ROE), or profitability, that has long lagged other developed markets is now near its highest level in four decades, LSEG data show, keeping us overweight on both a tactical and strategic horizon. We think ROE gains will increasingly come from small- and mid-cap firms as reforms spread beyond the largest companies. Our positive view on equities is also predicated on the Bank of Japan (BoJ) being mindful of the risks of tightening too much, too soon. Such risks cannot be ruled out, but we think lessons from last year’s yen surge and stock plunge suggest it will walk back if its tightening sparks volatility. The risk of renewed volatility has also diminished, in our view, as yen-funded carry trades have shrunk sharply compared with last year.

Watching for election policy impacts

We expect greater political clarity after the ruling Liberal Democratic Party’s leadership election on Oct. 4. The two leading candidates, Shinjiro Koizumi and Sanae Takaichi, differ on monetary policy — Koizumi supports further Bank of Japan rate hikes while Takaichi favors fewer hikes or even cuts — but both back looser fiscal policy, which could push long-term bond yields higher. Japan’s public debt already exceeds twice the size of its GDP, according to IMF data. With inflation back and interest rates rising, debt servicing costs are climbing, leading investors to demand more compensation to hold government bonds. That reinforces our underweight to Japanese government bonds.

Japan highlights how a country lens still matters for spotting opportunities, yet we increasingly lean on mega forces and the AI theme to find them. We see the AI theme playing out in Japan: AI is central to addressing demographic challenges and builds on the country’s strengths in robotics, automation and semiconductor materials. The AI theme has been an important driver of returns in China, Taiwan and South Korea this year – each developing models or providing key components of the AI buildout. This comes on top of Nvidia’s key investment agreements, showing how the AI theme is still driving U.S. equities.

Our bottom line

Japan’s ongoing reform progress is boosting corporate performance and returns. We stay overweight Japanese equities and underweight bonds. We also see more signs of the AI theme playing out globally that keep us positive.

Market backdrop

U.S. stocks hovered just below record highs, with the S&P 500 up nearly 13% for the year, led by tech shares. Japan’s Topix pushed to a fresh record high with the Topix now up 14% in yen terms. The MSCI Emerging Markets index is up nearly 25% this year in U.S. dollar terms, making it one of the top performing equity indexes this year. U.S. 10-year Treasury yields edged up slightly to 4.18% after the U.S. August PCE data underscored strong consumer spending.

This week, we’re watching jobs data. A slowing in hiring gave the Federal Reserve room to restart rate cuts in September. We anticipate additional cuts this year, but think the labor market would have to weaken far more for the Fed to implement the cuts markets have priced in for 2026. Rates will, in our view, ultimately settle at higher than pre-pandemic levels.

Read our past weekly market commentaries here.

Big calls

Our highest conviction views on six- to 12-month (tactical) and over five-year (strategic) horizons, September 2025

Tactical granular views

Six- to 12-month tactical views on selected assets vs. broad global asset classes by level of conviction, September 2025

We have lengthened our tactical investment horizon back to six to 12 months. The table below reflects this and, importantly, leaves aside the opportunity for alpha, or the potential to generate above-benchmark returns – especially at a time of heightened volatility.

Euro-denominated tactical granular views

Six to 12-month tactical views on selected assets vs. broad global asset classes by level of conviction, September 2025

We have lengthened our tactical investment horizon back to six to 12 months. The table below reflects this and, importantly, leaves aside the opportunity for alpha, or the potential to generate above-benchmark returns – especially at a time of heightened volatility.