Potential US/Iran war unlikely to derail Japan stock market rally in 2020

We expect Topix to test its 1991 highs of 2000 by H1 of this year
We start 2020 very much where we left off by the end of last year, remaining very bullish about our own stock market in Japan as we see green shoots appearing in both Chinese and European economies. With capital expenditure in China in particular likely to show increasing signs of recovery as easing trade tensions gradually unlock the investment plans which have been put on hold in the past 18 months, we expect Japanese capital goods manufacturers, especially in areas of technology and factory automation to see the benefits of this potential rebound. 

Although the level of Topix fell short of our year-end target of 1900, we see this level as being easily surpassed in H1 of this year and the broader index advancing to test the important psychological level of 2000, last seen in 1991 or 16% above its close in 2019. As we have argued since late August of last year when we started turning more positive, given Japanese stock market’s highly cyclical nature, and improvement plans in corporate governance structure becoming increasingly consensus, leading to strong activity in M&A, divestments and surging share buybacks, we think our market looks good both in terms of macro and micro while valuations in Japan remain highly attractive relative to other DMs. 

Potential for US/Iran war unlikely to derail the market rally
We don’t expect the recent beating of war drums between US and Iran to derail the rally either. On the contrary, we see the rising tensions in the Middle East to help detract the US administration from pursuing its trade conflict with China as Phase One of the trade deal gets signed on 15th of Jan and Phase Two talks begin in earnest. We view better trade relationship with China as far more important than any regional armed conflict between US and Iran that at worst could raise energy prices. 

Readers should also note that even during the bigger wars in the Middle East of the past thirty years when US had significantly deployed its armed forces, these wars did little to have any lasting negative impact on stock prices. Moreover, we don’t see much prospects of an all out conflict involving huge movement of troops that we had seen in the past given the clear lack of bipartisan support in the US for another armed conflict, especially with Iran. So although the current skirmishes and the proxy wars look set to continue, we suspect the market will soon get bored of them and move on. 

Having said that, we think that any potential geopolitical shocks to Japanese stocks is likely to be coming from North Korea which seems to be indicating a resumption of nuclear and long range ballistic missile testing. With Trump’s past talks with Kim Jong-un failing to achieve anything of substance, we do fear that that the North Korean leader wants to make his presence increasingly felt in the global arena, especially if the US has its hands full with Iran. However, for now we see little downside risk to be too concerned about. 

With these brief thoughts to kick off the new year, we like to wish readers and our clients a prosperous 2020.