Japan's Kono-Era Reforms: Unlocking High-Conviction Opportunities in Yen-Linked Assets and Domestic Equities

Japan's economic landscape is undergoing a profound transformation. The Kono-era reforms, spearheaded by Taro Kono and the Ishiba administration, mark a decisive break from the accommodative policies of Abenomics. With the Bank of Japan (BOJ) raising its key interest rate to 0.5% in July 2025—the highest since 2008—and fiscal consolidation gaining momentum, investors are presented with a unique window of opportunity. This shift is not merely a tactical adjustment but a strategic reorientation toward long-term stability, structural reform, and a rebalancing of Japan's economic priorities. For high-conviction investors, the focus must now turn to yen-linked assets, infrastructure, and domestic equities poised to benefit from this new paradigm.

Yen-Linked Assets: A New Era of Yield Normalization

The BOJ's exit from its ultra-easy monetary policy has catalyzed a surge in long-term bond yields. By May 2025, 40-year JGBs had reached 3.689%, driven by reduced institutional demand and the central bank's gradual unwinding of its bond-buying program. This normalization has made yen-linked assets increasingly attractive, particularly for investors seeking higher yields in a global environment of rising interest rates.

Yen-linked ETFs, such as the Invesco CurrencyShares Japanese Yen Trust (FXY), have also gained traction as the yen strengthens. The yen's appreciation, fueled by tighter monetary policy and improved investor sentiment, has made domestic bonds more appealing to both Japanese and foreign investors. For global investors, this represents a rare opportunity to access a historically undervalued market. Additionally, the BOJ's rate hikes have spurred a repatriation of capital from overseas assets, further boosting demand for yen-linked securities.

Infrastructure and Rate-Sensitive Equities: The Financial Sector's Renaissance

The tightening cycle has directly benefited financial institutions, particularly banks and insurance companies. Historically constrained by Japan's low-rate environment, these firms are now seeing improved net interest margins and higher returns on fixed-income portfolios. The 5-year JGB yield reaching 1.105% in 2025 has already signaled this shift, with institutions like Mizuho Financial Group and Sumitomo Mitsui Financial Group (SMFG) poised to outperform.

Infrastructure-linked equities are also gaining momentum. The government's emphasis on fiscal discipline and structural reforms has spurred corporate governance improvements, including increased share buybacks and dividend distributions. Small-cap and domestically focused companies, less exposed to yen fluctuations, are particularly attractive. For instance, Hitachi, which has streamlined its operations by divesting non-core subsidiaries, has seen its stock price appreciate at an average of 18.6% annually in EUR terms over the past five years. Similarly, JSR, a leader in semiconductor photoresists, has exited low-margin businesses to focus on high-growth sectors, aligning with the Kono-era emphasis on capital efficiency.

Domestic Equity Sectors: Structural Reforms and Demographic Tailwinds

The MSCI Japan Index has outperformed global peers in the first half of 2025, gaining 7.7% compared to the S&P 500's 0.56%. This outperformance is driven by structural reforms, wage growth, and a shift in household investment behavior. The Nippon Individual Savings Account (NISA) program, which offers tax exemptions on capital gains, has incentivized Japanese households to shift ¥5 trillion ($33 billion) into equities in 2024 alone.

Defensive sectors such as utilities, consumer staples, and healthcare are also gaining traction. These industries, less sensitive to interest rate volatility, are well-positioned to benefit from Japan's domestic consumption boom. For example, Fast Retailing (Uniqlo) has leveraged digitalization and AI to enhance productivity, positioning itself to thrive in a wage-driven economy. Meanwhile, the hospitality sector is capitalizing on a surge in foreign tourists and improved occupancy rates.

Regional Revitalization: Strategic Infrastructure and Demographic Solutions

The Kono-era reforms have also prioritized regional revitalization through initiatives like the "Furusato Resident Registration System," which encourages dual-area residency to strengthen local economies. Infrastructure investments in urban renewal, green energy, and digital systems are central to this strategy. For instance, TSMC's semiconductor fabrication plants in Japan highlight the country's commitment to onshoring and friend-shoring efforts.

Risks and the Path Forward

While the Kono-era reforms present compelling opportunities, risks remain. Japan's public debt-to-GDP ratio of 240.6% in FY2024 and rising interest payments pose challenges. Political uncertainties, including an LDP leadership race, could also disrupt policy implementation. However, the long-term benefits of fiscal consolidation, structural reforms, and a stronger yen-linked asset class outweigh these risks for investors with a multi-year horizon.

For high-conviction investors, the key is to focus on sectors and companies directly aligned with the Kono-era agenda. Yen-linked bonds, rate-sensitive financials, and domestically oriented equities offer a compelling mix of yield, growth, and resilience. As Japan navigates its economic rebalancing, those who act decisively will find themselves well-positioned to capitalize on a pivotal moment in the country's economic history.