The sinking foundation of TSE
The Stock Exchange of Tokyo will update its current market system in April 2022. The Japanese stock exchange is no longer the world authority and is cannibalizing Asian regional markets. If not changed, the presence of TSEs will likely continue to decrease, so there is no time to waste. However, given the restructuring plan and progress made so far, fundamental changes seem unlikely and reforms cannot go beyond the simple renaming of existing segments.
The TSE was once considered one of the most extensive stock exchanges in the world along with the New York and London stock exchanges. It was a time when Japanese companies made huge profits and had huge global influence.
During the investment drip, the Stock Exchange’s market capitalization grew to around 190 trillion yen in 1985, comparable to the New York Stock Exchange’s 244 trillion yen at the time. In 1989, at the height of the asset bubble, the Stock Exchange even surpassed the New York Stock Exchange in market value. After the bubble burst, however, this market value fell and is now about a quarter the size of the NYSE or Nasdaq. The combined market capitalization of the Hong Kong and Shanghai stock exchanges is already more than double that of the Stock Exchange. More and more foreign institutional investors are starting to exclude public companies from their portfolios.
Topix reform faces repeated setbacks
Concerns about the TSE’s potential to become a regional exchange in Asia have been raised for some time by exchange participants, with various discussions on the necessary reforms. In Japan’s reform attempts, there are often cases where the interests of all parties are inconsistent, an agreement is reached in principle but no agreement is reached in practice, and the measures are eventually diluted. Previous attempts at TSE reform are no exception, the same difficulties are avoided through real change. However, the deteriorating image of the Japanese stock market cannot be ignored, and the planned restructuring may be the last chance for the Stock Exchange.
This Stock Exchange is based on two posts: market restructuring and the examination of the Stock Price Index (TOPIX).
TSE currently consists of four components: Part I, Part II, JASDAQ, and Mothers. These segments will be reorganized into three segments: Primary, Standard, and Growth. In short, Prime Market will be a market for companies that meet global standards, a standard market for other companies, and a growth market for startups.
These three new segments are expected to transition smoothly into growth markets. JASDAQ and Mothers are aimed at startups, and the difference between them, while not too obvious, can be explained by their history. JASDAQ was developed not as an exchange but as an over-the-counter market, where stocks are traded at brokerage houses’ windows.
JASDAQ is the only market where new companies can go public. Joined the Tokyo Stock Exchange after being acquired by the Osaka Stock Exchange in 2013. Mother, on the other side, is a marketplace created by TSE for startups, making it a JASDAQ competitor. Nearly a decade has passed since JASDAQ was integrated with TSE. Few players might object to the creation of a single market for start-ups.
The situation is more complicated for the Prime and Standard markets. One notable difference is the number of companies listed in Parts I and II, which are 2,180 and 473, respectively (as of March 2, 2022). In further observations, it would not be terribly wrong to say that “Tokyo Stock Exchange-listed companies” only include the companies listed in Section 1.
The company has a subordinate called capitalization
Partly influenced by government policy, since World War II, companies have preferred to raise capital through indirect financing (bank loans) instead of direct financing (share issuance). This has led to constant criticism that Japan’s stock market has failed as a means of raising capital. Instead of pursuing the goal of raising capital, many companies try to list their shares to increase visibility or boost employee morale. Of course, many companies prefer to be listed on the first board.
In view of this situation, the Tokyo Stock Exchange has not introduced particularly strict regulations, which would disqualify listed companies and reduce the number of listed companies. However, weakened criteria allow ineligible companies to remain on the Part 1 list. As a result, a large number of companies still exist, and the segmentation of the TSE market has not served its purpose.
Simple listing criteria mean that Companies with inadequate financial strength can still go public without any problems. These companies have little encouragement to do so.
consistently increase profits to maintain their position. In the lengthy run, such an environment can cause damage, such as a loss of confidence in the overall market and a drop in market value.
Comparing the TSE to the NYSE is instructive. The market value of each company in the first and second phases of the Stock Exchange is about 270 billion yen, only one-fifth of the New York Stock Exchange. Lax stock market standards and ease of going public arguably contributed to the decline in TSE’s market value.
If the Stock Exchange really wants to restore Japan’s market position, it should take a critical step to tighten market standards for blue-chip stocks, allowing only companies that meet global standards to list. Initially, such reforms were expected. In fact, little has changed, with 84% of companies listed in the first tranche being on Prime Market. While this is an improvement, it is not enough to strongly encourage an increase in the market value of companies.
TOPIX redesign issues
The second pillar of the upcoming reform is the Topix review, which will be implemented on October 31, 2022. If the new Topix index is not closely related to the market segment and the market restructuring is not progressing smoothly, the review may not be carried out normally. .correct.
The current TOPIX is the Market capitalization-weighted index of all the stocks listed in the first section. After the review, Topix will make selections based on the new criteria, regardless of its market segment. During the transition period from the new Topix (October 31, 2022, to January 31, 2025), stocks in the first sector will continue to be part of the index.
Through a selection process based on market capitalization and other factors, the stock quality of the new Topix will gradually improve beyond the current implementation.
Of course, higher standards raise expectations for better performance. However, this effect varies depending on the selection criteria chosen. With selection criteria limited to a market capitalization of outstanding shares, most observers don’t think the new Topix will be much different from the current version.
The Japanese stock market currently has two major indices: the Nikkei Average and the Topix. The first is the reconciliation of the Dow Jones Industrial Average to the Japanese stock market. Like the DJIA, the Nikkei Average is a price-weighted index, calculated using a divisor to maintain share price continuity after a stock split (the Nikkei Average was formerly known as the Nikkei Dow). Meanwhile, TOPIX is rated by participants as an index that reflects broader stock market trends.
The new Topix should encourage companies to increase profits, as stocks are not necessarily included in the index simply because they are part of the main market. However, if the new TOPIX is only slightly different from the current version, this effect is unlikely to be significant. TSE reform in its current form is limited to market segmentation and superficial changes in the stocks that make up TOPIX. Whether market leaders will actually see real change is debatable.
Only the market can facilitate enterprise reform
As mentioned above, much of the stagnation in the Japanese stock market is the result of weak Japanese corporate earnings. Total sales by Japanese companies have been roughly flat since the 1990s, while sales by U.S. companies have tripled over the same period. Since the relationship between value-added and sales (gross margin) in Japan has hardly changed, sales have fallen relatively, so the value-added of companies has also declined.
Low wages at Japanese companies have become a problem in recent years, and Prime Minister Fumio Kishida’s government is considering a tax policy to raise wages. However, economic theory holds that unless the value added by businesses increases, workers’ wages will not increase either. The reason for the lower wages in Japan is the low profitability of Japanese companies. Therefore, market-oriented reforms will be a powerful engine to reverse this situation.
For companies that issue stock, only shareholders can directly influence them, and only the market can drive shareholder action. The stock market can be considered the last bulwark protecting Japan’s economy. Failure to reform this market on its own will further undermine confidence in the Japanese economy.