Nikkei 225: Bulls undeterred by Japanese government economic downgrade

• Recent price actions of the Nikkei 225 are still trading above its 20-day moving average despite the latest official downbeat assessment of Japan’s economy.
• Significant correlation flip between USD/JPY and Nikkei 225 may persist as a weaker JPY may not be a main driver to drive up the price actions of Nikkei 225.
• A strengthening JPY may see the outperformance of consumer-oriented TOPIX equities sectors such as Retail Sales and IT & Services.
• A new medium-term uptrend may have kickstarted in Nikkei 225, watch the 32,090 key medium-term support.

Japan’s government on this Wednesday, 22 November downgraded its assessment for the first time in ten months, citing economic growth in Japan has recovered moderately but appeared to be pausing due to weak domestic demand.

The benchmark Nikkei 225 has continued to trade above its upward-sloping 20-day moving average since the start of this month, November, and rallied by +11% from its key swing low area of 30,530 printed on 4 and 24 October 2024.

The latest official downbeat economic assessment has not derailed the current bullish tone of the Nikkei 225 as it has managed to remain above the “gapped up” support of 32,820 formed on last Wednesday, 15 November; the effect in a global risk-on herding behaviour reinforced by the softer than expected US CPI print for October that was released on last Tuesday, 14 November (current level of Nikkei 225 is at 33,452 as of 22 November).

Significant correlation flip between Nikkei 225 & USD/JPY

Fig 1: Correlation trends between Nikkei 225, USD/JPY & S&P 500 as of 22 Nov 2023 (Source: TradingView, click to enlarge chart)

Interestingly, the previous long-term traditional high direct correlation between the movements of the Nikkei and USD/JPY has broken down based on its latest 20-day rolling correlation coefficient reading of -0.15.

From a fundamental standpoint, a persistently weaker JPY (where the JPY has depreciated by as much as 15.9% against the US dollar since the start of 2023) is likely to have a more detrimental effect now on Japan’s economy due to the risk of higher imported inflation which in turn drives up imported energy costs for resources-scare Japan.

Moreover, oil prices are likely to remain sticky on the upside in the medium term as OPEC+ leading member, Saudi Arabia seems to be still in favour of extending current oil supply cuts into 2024.

Therefore, a stronger JPY is much needed for Japan at this juncture to negate the risk of elevated imported inflation that can dent business and consumer confidence which in turn dampens internal domestic spending. Hence, this latest narrative explains the current “correlation flip” between USD/JPY and Nikkei 225.

Consumer-oriented TOPIX equities sectors may benefit from a stronger JPY

Fig 2: 1-month rolling performance of the 17 TOPIX sectors as of 22 Nov 2023 (Source: TradingView, click to enlarge chart)

In the past week, the JPY has started to strengthen against the US dollar driven by more of an increasing expectation of a dovish tilt from the US Federal Reserve rather than a hawkish Bank of Japan’s modus operandi.

The JPY has been appreciated by as much as around +3% against the US dollar since last Monday, 13 November and it has started to translate to an uptick in bullish sentiment seen in the Japanese equities sectors that are tied to business and consumer confidence and domestic spending.

Based on the one-month rolling performance of the 17 TOPIX sectors as of 22 November 2023, Retail Trade (+7.59%) and IT & Services (+7.13%) have started to show outperformance against the broader TOPIX index (+5.98%).

Potential start of new medium-term uptrend for Nikkei 225

Fig 3: Nikkei 225 medium-term trend as of 22 Nov 2023 (Source: TradingView, click to enlarge chart)

In the lens of technical analysis, the recent bullish momentum seen in the Japanese stock market is likely to trigger the potential start of a medium-term (multi-week to multi-month) uptrend phase in the Nikkei 225 after the -9.5% corrective decline seen from 16 June to 24 October 2023.

The current price action of the Nikkei 225 as of 22 November is retesting a 33-year swing high of 33,770 after an initial pull-back seen on Monday to Tuesday.

Meanwhile, the daily RSI momentum indicator has continued to exhibit positive momentum readings after its earlier bullish momentum breakout and retest on 7 November 2023.

If the 32,090 key medium-term pivotal support holds, a clearance above 33,770 is likely to see the next medium-term resistance coming in at 36,600.

However, a break below 32,090 sees another round of corrective decline to retest the 200-day moving average that also confluences closely with swing low areas of 4/24 October 2023, acting as a support at 30,530.

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