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Nikkei Reforms Reflect Changing Economy

June 13, 2000

On April 24, 2000, revisions were made to the standards by which the Nikkei average--Japan's main share-price indicator--is calculated, with 30 of the 225 component stocks that make up the index being replaced. The revision was prompted by changes in industrial structure, such as the progress of the information technology revolution, the effects of which have spread to the stock market, creating an increasingly conspicuous gap between the index and market reality. In the first revision in about nine years, the shares removed were mostly from old-style industries like materials, while those that replaced them were from sectors where future growth is expected, such as telecommunications and services. It is hoped that the swap will enable the average to reflect market trends more accurately than before.

IT Stocks Make Their Debuts
The Nikkei average is managed and operated by the Nihon Keizai Shimbun, Inc. newspaper company. The firm selects a representative sample of 225 stocks from the approximately 1,400 listed on the First Section of the Tokyo Stock Exchange, calculates their average price every minute throughout every trading day, and announces that average publicly. Such calculations began on the Tokyo Stock Exchange in 1950, and the Nihon Keizai Shimbun took over this function in 1985.

A recent revision of selection criteria gives greater priority to stocks with high market liquidity. A stock is judged to have market liquidity if figures for the past 5 years show that trading volume is large and the price fluctuations are small in relation to the volume of trade. Under the previous criteria, selection was based on volume of trade and the extent of price fluctuations over the previous 10 years; the new criteria should make the average more sensitive to the realities of a rapidly evolving market.

Under the recent revision, stocks from traditional industries--mainly materials industries like mining, chemicals, and textiles--were dropped; stocks from growth industries, such as telecommunications and convenience-store chains, will now be used instead. Furthermore, the line-up of shares used to calculate the average will now be reviewed every year.

Responding to Calls for Greater Accuracy
Changes in Japan's industrial structure are cited as the main reason for the revision of the Nikkei index. Times have changed from the high-growth era, when mass-production industries like metals and petrochemicals flourished, to an era when a greater variety of high-value-added products are manufactured in smaller quantities. Led by the electronics industry, everything is getting lighter, thinner, shorter, and smaller, a process that has gathered momentum through the IT revolution of the late 1990s.

Corporations that were left behind by these structural changes have been deserted by investors, and their share prices have fallen. What would happen if the average was calculated using only companies like those? It would tumble to a much worse position than the reality of the market. On the other hand, if only high-growth stocks from companies at the forefront of structural change were used, the average would paint a picture of an intensely active market equally removed from reality. In either of these two cases, the average would cease to fulfill its purpose as a measure of trends in the stock market and, by extension, in the Japanese economy.

In the last few years it has become more and more obvious that the Nikkei index included the shares of many companies that were slow to adapt to the structural changes in the economy. In April 2000, in the week after the New York Stock Exchange fell sharply, the Nikkei average dropped by over 10%, but the TOPIX, which is calculated using all the stocks of the Tokyo Stock Exchange, actually rose for four consecutive days. On the last day before the recent changes, April 21, TOPIX prices had nearly returned to their level before the fall, highlighting the gap with the Nikkei average. Although the drop in the Nikkei average was partly due to the fact that that investment trust managers rushed to sell the 30 stocks that were about to be replaced, there have nevertheless been increasingly vocal demands that the share average reflect more accurately the market reality.

Trends in JapanCopyright (c) 2000 Japan Information Network. Edited by Japan Echo Inc. based on domestic Japanese news sources. Articles presented here are offered for reference purposes and do not necessarily represent the policy or views of the Japanese Government.