By Sarah Turner, MarketWatch
SYDNEY (MarketWatch) — Japanese stocks rocketed to some of the strongest gains in recent memory over the first three months of this year, but a further advance for the market will likely depend in large part on where government policy goes.
Japan’s benchmark blue-chip index, the Nikkei Stock Average /zigman2/quotes/210597971/delayed JP:NIK -3.34% , climbed 19.3% in the first quarter of 2012. That was the first quarterly gain for the Nikkei Average in three quarters and its best first-quarter performance in percentage terms since the boom-times of 1988.
The advance has been attributed to valuation catch-up moves, monetary-policy easing in Japan, and economic improvement for some of Japan’s key trading partners, including the U.S.
Such a strong quarter has set the bar high for the coming months, but analysts are unsure whether the index can build significantly on those gains.
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During the first three months of 2012, the Nikkei topped 10,000 as it reached a level not seen since early last year, when a devastating earthquake and tsunami hit the country.
Stocks initially fell sharply after the natural disasters in March but soon started to pick up steam, as focus turned to likely demand from the rebuilding process.
But the upward momentum was soon stymied by external events, including a downgrade of the U.S. credit rating last August and a severe escalation of Europe’s debt woes.
The Nikkei Average bottomed at just over 8,100 by late November, a level not seen since March 2009.
But the turn of the year saw the European Central Bank move to provide liquidity to the European banking sector which, when coupled with ongoing improvement in U.S. economic data, worked to alter the investing landscape in early 2012 and prompt gains for many global stock markets.
Naomi Fink, Japanese equity strategist for Jefferies, described Japan’s first-quarter rally as a “reversion to mean … a correction of undervaluation.”
“Japanese equities were hit once after the quake and tried to rally back, and then along came the euro-zone crisis, so valuations were really depressed,” she said.
Bank of Japan
As investors began buying up cheap stocks, Japanese share gains accelerated in mid-February when the Bank of Japan unexpectedly expanded its asset-buying program and set a 1% inflation target, which acted to substantially weaken the yen.
The Credit Suisse global equity strategy team called the inflation target “a critical change,” as they said that the Bank of Japan had historically appeared to accept deflation as part of the economy, in part because of Japan’s ageing population.