A fresh bout of yen weakness is set to fuel further gains in Japanese stocks, but the economy's wobbly recovery may limit the upside, say strategists.
The yen weakened to a fresh six-year low of 108.39 against the U.S. dollar late Wednesday after the Federal Reserve's guidance on interest rates sent the dollar higher. This provided fresh impetus for Japanese stocks, sending the Nikkei 225 up over 1 percent to 16,051 on Thursday.
"The Nikkei has been struggling to get back to January highs of 16,320, but with this new development on the U.S. dollar front, we would expect the Nikkei to test that level in the next few weeks," Stan Shamu, strategist at IG told CNBC. "I expect any dips in the index will be bought into."
The inverse relationship between the Nikkei and the yen is one of the foreign exchange market's long-established trends. In the first half of the year, investors faced a stronger yen, fueled by risk aversion amid geopolitical tensions and economic concerns.
Nicholas Ferres, investment director at Eastspring Investments, who moved to an overweight position in Japan in July, agrees the yen's slide will help further the rally. However, he noted there's more to Tokyo stocks gains than yen weakness, highlighting attractive valuations and improving corporate profits.