Nikkei slides as Japan posts strong GDP growth

Nikkei225 Analysis

The Japanese economy picked up pace with a 2.1% expansion in the first quarter, underscoring its resilience, but the strong print could embolden the Bank of Japan to resume rate hikes. Policymakers maintained their tightening bias in a hawkish hold last month and opened the door to a hike as early as June according to the summary of opinions ^[1]. The central bank may have little room to stay on hold given the inflationary impulse from the Middle East conflict and the spike in energy prices. It has already upgraded its inflation forecasts, while real wages are rising this year, adding to pressures.

Still, the Japanese economy remains particularly exposed to the Middle East conflict and energy supply disruptions, importing most of its oil from the region ^[2]. This casts a shadow over both the stock market and the economy, as it could disrupt major industries, weigh on profits and hurt consumption. PM Takaichi is taking measures to support growth and is seeking additional spending ^[3]. But such prospects, on top of an already record FY26 budget ^[4] in one of the most indebted countries in the world, could intensify fiscal concerns and eventually erode confidence in Japanese assets and the Nikkei.

With the Middle East overhang still in place and the Bank of Japan's tightening bias reinforced by the strong GDP print, JPN225 extends its pullback today. The recent decline exposes it to a key support cluster provided by the EMA200 and the 38.2% Fibonacci level, and a breach could open the door to deeper corrections. However, a defence of this crucial technical region would reaffirm the bullish outlook and put JPN225 back on track for new all-time highs. Both technical and fundamental drivers suggest the path of least resistance remains higher.

Political stability, commitment to stimulus, and support for key industries and consumption are tailwinds for the economy and equities. Meanwhile, Japan is a key part of the semiconductor supply chain through companies like Advantest and Tokyo Electron, which could continue to fuel JPN225 gains as hyperscalers keep spending on the AI infrastructure buildout.

USD/JPY has recovered most of its post-intervention losses and the yen is likely to remain weak, which could sustain the appeal of Japanese equities to foreign investors. At the same time, monetary policy remains accommodative and officials have maintained a cautious approach to rate hikes against heightened macroeconomic and geopolitical uncertainty.

The Middle East conflict continues and the Strait of Hormuz remains effectively shut, but a normalisation of energy flows would remove a key headwind. Such hopes have returned this week after President Trump called off a military strike at the request of Middle Eastern countries amid ongoing negotiations and prospects of a deal. ^[5]