Japan’s stock exchange has unveiled a record revamp of the benchmark Topix, with almost 700 stocks at risk of being ejected from an index tracked by passive funds worth almost $1tn.
The move is part of a wider reform campaign spearheaded by Japan Exchange Group chief Hiromi Yamaji. He has been pushing companies to achieve higher valuations by improving returns and how they interact with shareholders.
JPX has already moved to prune the Topix, with the first phase of reforms culminating at the start of last year that reduced the number of stocks in the index from about 2,200 to 1,700. Removal from the index triggers automatic selling by passive investors, while inclusion drives demand.
The Topix is considered a broader and more representative index than the better known Nikkei 225, which is weighted by price rather than market value. However, the large number of stocks in the Topix has concerned some investors.
The biggest constituents of the Topix are global giants with market caps running into the hundreds of billions of dollars, led by megabank Mitsubishi UFJ Financial, the world’s biggest automaker Toyota and technology investor SoftBank Group.
At the other end of the list are companies such as Prored Partners, a management consultancy firm with a market cap of ¥3.6bn ($22.7mn), and Phil Company, a real estate and storage firm that is worth only slightly more.
The new rules will be based on relative performance, with companies required to meet liquidity requirements and rank within the top 97 per cent by free-float market capitalisation. New entrants must rank within the top 96 per cent.
That means companies could be ejected from the index if they fail to keep pace with faster-growing peers, which investors hope will encourage competition.
The review announced on Wednesday found that 683 constituents failed to meet the new criteria and risk eventual removal. At the same time, 35 companies will be added to the index.
The changes to the bottom performers will happen gradually, with full removal scheduled by July 2028.
JPX Market Innovation & Research, the body overseeing the changes, expects the Topix ultimately to contain at least 986 companies, compared with 1,636 at the end of August. The final number will depend on a reassessment in October next year.
Analysts also say the moves should make it easier for passive investors to track the Topix. According to UBS analysts, the index serves as the benchmark for passive assets worth an estimated ¥155tn (about $1tn).
“The reform could be a long-term positive for Japanese equities by promoting broader value creation across corporate Japan,” said Chisa Kobayashi, a Japan equity analyst with UBS.
Despite the fact that the index is losing hundreds of constituents, Kobayashi warned that the impact might not be dramatic.
“Although roughly one-third of current constituents could ultimately be removed from the index, stocks at risk of exclusion represent less than 3 per cent of Topix market capitalisation, suggesting only a modest impact on index performance and overall market liquidity.”
Goldman Sachs analyst Bruce Kirk said: “The free float weight focus is likely to increase the influence of large-cap blue chips, many of which are now in AI-related sectors. AI is already a huge driver of index performance and earnings growth in Japan and this is likely to increase with the Topix changes.”