Passive foreign demand for Japanese stocks lags due to allocation limits and weaker semiconductor exposure, capping upside despite strong returns.
Foreign investors remain cautious on Japanese equities, despite a 22% JPY-based return for the MSCI Japan Index in 2025. Holdings by international investors trailed benchmarks, with median gains of 17%, as allocation constraints and Japan’s limited role in the semiconductor theme dampened demand.
Japan’s equity market, which accounts for 63% of cross-border portfolio investment, faces headwinds from JPY strength, which could pressure earnings translation. Meanwhile, foreign interest in JGBs and the yen has grown, with rebalancing flows likely favoring bonds over stocks.
Nearly 90% of international equity holdings in Japan, totaling ¥320tn, are held by U.S. and European investors. Survey data show no surge in flows, reinforcing the preference for fixed income amid structural challenges.