In 2005, the Nikkei equity index shot ahead by 40% while 10-year Japanese government bond yields inched higher by just 15bp.
One is wrong. Either equity investors have become too exuberant about the economy’s recovery and the prospects for sparkling corporate profits to justify punchy valuations, or bond investors have failed to price in the shift from an era of deflation to one of inflation and higher rates to come.
In January, the Livedoor scandal hinted that it is equity investors who have got ahead of themselves. But don’t confuse structural problems in the stock market with fundamental weaknesses in the economy and corporate sector. True, a market whose turnover is dominated by inexperienced day traders punting internet stocks and stagging small-cap IPOs inspires little confidence as an efficient mechanism for allocating capital.
But the renewed health of Japanese corporations is no mirage. They have finally escaped the burden of excessive debt, labour and capacity. They are busily rebuilding ageing plant and machinery, often from cash, so boosting the economy through investment and, by offering more full-time jobs, enabling more confident consumers to play their part in an economic revival based on robust domestic demand.