Japanese investors have been risk averse following the so-called lost decade and the immense amount of wealth lost when the Japanese stock market and property bubbles popped in 1991. However, that aversion is starting to disappear.

With Abenomics in full effect, investments are picking up and the stock market is recording large swings in trading activities and prices.

Does this point to a resurgent market or instead to inflation and a false bubble created by excessive quantitative easing?

Stock market japan

Japanese investors were risk averse through the most of the 1990s and 2000s. Japanese investors have long preferred “stable” investments, with government bonds being one of the most popular investment vehicles. This led to a somewhat stagnant stock market, often regarded as one of the most stable but unappealing markets in the world.

The lack of participation in investment markets has also left many Japanese companies strapped for cash. With retail investors preferring their bank accounts and other safe forms of investments, Japanese companies have faced far more difficultly in raising capital than their American and European country parts.

The Bank of Japan is now entering into the investment market at never-seen levels. Japan’s quantitative easing efforts are of the same scale and scope as the United States, and yet Japan’s economy and population is only about 1/3 of that of America.

While the American Fed has been skittish about investing directly in the stock market with its made up money, the BOJ has shown no qualms.

Last week, the BOJ bought some 70 percent of all newly introduced government bonds. This sent bond rates plummeting, with many Japanese pensions and investors turning to overseas bonds for higher returns. Bond rates around the world subsequently fell as Japanese investors looked for new bond markets with higher interest rates.

The BOJ’s efforts to entice the stock market through direct buying is a major force pushing stock markets higher. With the Yen continuing to drop in value and the BOJ seeming committed to inflating the stock market, other investors are following the lead.

If investors hold on to their cash, they risk losing their true wealth to inflation. The stock market, however, offers a way for investors to beat out the devaluing Yen and reap the benefits of a surging market.

The BOJ’s move could unleash Japan’s vast amount of stored wealth. Japanese households hold some 8.9 trillion dollars in savings, larger than the United States (7.7 trillion) and an immense source of potential investment. Unfortunately, the the rapidly devaluating Yen and still stagnant domestic economy might just push Japanese citizens to shift their assets and investments overseas.

Still, early signs are positive with local retail investors increasing their share in the market from 20 percent in October 2012 to over 30 percent as of now.

Still, it’s hard not to wonder if the BOJ isn’t simply creating another bubble that could pop and destroy the wealth of Japanese investors and companies. Japan’s economy has long struggled due to a poor business environment.

Japanese companies have continuously fallen behind their international competitors as American and European designed products have become more innovative and user focused. Japanese has also lost its status as the world’s leading manufacturer to China as cheap Chinese labor gives the country an insurmountable competitive advantage.

Quantitative easing is a dangerous tool to use. Central banks essentially create money out of thin air to then purchase assets, such as bonds. This injects more money into the market, thereby depressing the value of the currency in question.

A weakened currency can aid exports; however, it can also cause inflation and encourage people to shift assets into other currencies and markets. Not only that, but quantitative easing can cause bubbles to inflate, increasing the likelihood of one “popping” and sending the economy back into a downward spiral.

With the Japanese economy showing few signs of actual growth outside of its fiscal policies, and the increased participation of retail investors the risk of another catastrophic asset bubble is no more real than ever before. If the BOJ continues with its reckless and extreme policies, the economy could overheat before finally burning itself out.