Japan Stocks Slide, JGBs Volatile Amid Political, Trade Jitters

The front entrance of the Tokyo Stock Exchange.

(Bloomberg) — Stocks declined in Tokyo as another flare-up in US-China trade tensions battered risk appetite, along with the collapse of Japan’s ruling coalition.

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The Topix Index dropped 2% as of market close on Tuesday, with the Nikkei 225 sliding 2.6%, the most since April 11. Tech companies and banks contributed most to declines on the broader Topix.

Japanese government bonds look vulnerable to more bearish sentiment this week, with a fluid political backdrop complicating the outlook for fiscal policy. Long-maturity JGB yields rose, with the 30-year jumping 5 basis points at one point amid concerns over government spending. Yields on shorter-dated debt declined, reflecting lower odds of a near-time interest rate hike by the central bank.

Worries about global trade ramped up in the afternoon after China imposed fresh curbs on some shipping-related companies in response to a US probe into the nation’s maritime industry.

“US-China tensions are continuing to simmer away, rather more aggressively than participants would like,” said Michael Brown, a senior research strategist at Pepperstone Group.

The yen swung from losses to gains in mid-afternoon, with Brown citing haven demand. The swing also came after Japanese Finance Minister Katsunobu Kato said the government was closely watching any excessive or disorderly moves in the foreign exchange market.

Equities investors who drove the Nikkei 225 and Topix stock gauges to fresh record highs last week are also grappling with the fallout from the ruling Liberal Democratic Party’s loss of its coalition partner, Komeito, after Sanae Takaichi took over as leader of the LDP.

Just hours after the rupture of the 26-year alliance on Friday in Japan, President Donald Trump announced higher US tariffs on China, sparking a slump on Wall Street and a drop in Asian shares on Monday.

“The knee-jerk reaction to all the events over the weekend is a negative one,” UK-based Japan equity analyst Pelham Smithers wrote in a note. “Not only do we need to be thinking about who the next prime minister is, but we also need to be thinking about China 100% trade tariffs,” he said.

Shares of globally exposed tech firms were among the worst hit on Tuesday, with Sony Group Corp. and Hitachi Ltd. falling more than 3% and SoftBank Group Corp. dropping 6.1%.

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Banks were also weak as traders reasoned that domestic political instability will make it harder for the Bank of Japan to raise its policy rate.

“A political crisis basically forces the BOJ onto the sidelines,” said Smithers. Overnight index swaps indicate a roughly 10% chance of a rate hike this month, compared with around 63% at the start of October.

JGBs may receive some “modest positive spillover” from risk aversion on US-China tension, but they will struggle to outperform given elevated uncertainty over Japan’s fiscal policy, according to Homin Lee, senior macro strategist at Lombard Odier Singapore.

Tuesday is just the first in a series of tests for the JGB market, already grappling with yields at multi-decade highs. An auction of 20-year bonds on Wednesday will provide a gauge of demand after recent patchy sales.

Vishnu Varathan, head of macro research, Asia ex-Japan fixed-income at Mizuho Securities, expects downward pressure on the nation’s bonds, pushing yields higher.

“Worries of debt value being eroded are bound to pressure JGB yields higher, led by the long end,” he wrote in a note. “The notoriety of ‘revolving door’ politics, with all the associated risk of policy/fiscal setback risks, is ostensibly seeping through.”

This scenario would potentially ripple into European and US debt markets, which have been affected in recent months by rising yields in Japan.

Investors are also likely to be peppered with a steady flow of political catalysts over the coming days as the LDP, Komeito and other political parties mull potential alliances and who to support as Japan’s next prime minister.

On top of this comes a policy decision from the Bank of Japan on Oct. 30. While bets for an interest rate hike have declined amid the political turmoil, the BOJ is being challenged by inflation that is higher than its target.

Still, some investors are sanguine about the political ructions.

There won’t be another market shock like in August last year, according to Neil Newman, head of strategy at Astris Advisory Japan. “The golden rule for Japan is buy on a down day, sell on an up day and don’t chase anything,” he said.

Richard Kaye, co-head of Japan equity strategy at Comgest Asset Management, sees a negative day Tuesday but a picture that gradually gets brighter in the months ahead.

“By the end of 2025, I believe realism will prevail once again. I expect trade friction to ease soon,” he said, adding that concerns over Japan’s fiscal deficit may also ease. “I expect the rebound in domestic demand-related and small-cap stocks to continue. Supported by these sectors, I anticipate the Nikkei 225 will maintain a strong performance from year-end through next year.”

ADVANCERS

DECLINERS

Chugai (4519) -6.4%

SoftBank Group (9984) -6.1%

Fanuc (6954) -5.6%; Fanuc Shares Down 6%, Most in 6 Months Outpacing Losses in Topix

INSIGHTS

The MSCI AC Asia Pacific Index was down 1.4%

Topix Index is up 13% year-to-date, vs. MSCI AC Asia Pacific Index up 20%

Topix Index members are trading at 15.7 times their estimated earnings for the next 12 months

Japan Stocks Slide, JGBs Volatile Amid Political, Trade Jitters

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