Team Japan pulled off its best Olympic performance in the Tokyo Games , winning 27 gold medals. Likewise, in the long run, the nation’s markets are poised to perform well as they appear well-positioned for a period of higher inflation in the wake of record stimulus spending globally. No doubt, it takes courage to forecast a revival of Japan’s stock market following decades of deflation and sluggish domestic growth that has culminated in “Japanification” becoming a byword for economic atrophy. Japan has often been seen as a market for tactical, rather than strategic, allocation. However, the country is starting to show signs of rejuvenation. Japan stands to emerge as a net winner from shifting global economic conditions in the wake of the Covid-19 pandemic , with growth further invigorated by domestic reforms targeting structural challenges. At the advent of an inflationary era, it is better positioned than most nations. The reappraisal of traditional 60/40 stock-bond portfolios is prompting global investors to take a new look at Japan’s diversification appeal. The rise of inflation represents a paradigm shift in a world recovering from Covid-19, following unprecedented fiscal and monetary stimulus. “ Japan, Inc ” stands to benefit from future price increases, with a benchmark equity index tilted towards sectors that tend to outperform in periods of rising inflation, such as carmakers, machinery companies and producers of consumer durables. Automotive-related stocks, which account for about 10 per cent of the Topix index, have historically had a positive correlation with inflation among all sectors. In previous inflationary periods, Japanese manufacturers have been able to retain impressive pricing power and pass on the impact of cost increases to customers around the world. In response to inflationary pressures, central banks are signalling a tapering of quantitative easing , but this alone might do little to alter the course of long-term price increases. Before long, interest rates should rise across the maturity curve and this could turn a long-standing drawback of Japan into a new edge – it has one of the lowest levels of corporate debt among major economies. Japan, Inc has been famous – or perhaps infamous – for its excess cash pile that in the past has limited investor returns. The average Topix firm holds cash equivalent to more than a quarter of its market capitalisation. However, cashed-up Japanese companies are well-positioned to enter an era of rate increases as they have among the lowest debt-servicing burdens in major markets. In the past two decades, global investors have grown used to hedging their equity portfolios with bonds. But this popular approach might be losing its appeal as stock-bond correlations started to turn positive this year, forcing investors to search for new sources of diversification. The answer might be Japan . Japan is realising the true value of a top financial centre – will China? Internally, Japan’s structural reforms are creating drivers of secular growth over the medium term. Regulators and institutional investors have both stepped up efforts to unlock trapped value through the improvement of capital allocation and governance. A campaign started by former prime minister Shinzo Abe to boost capital efficiency and increase shareholder value has contributed to gradual progress in recent years. Cross shareholdings , which can prevent investors from holding company managers to account, have visibly declined in the Japanese market, while private capital expenditure has steadily recovered in the past decade in a sign of improving confidence and efficiency. Regulators revised the country’s Corporate Governance Code in 2018 and again in June this year, seeking to enhance disclosure, board independence, gender diversity and environmental and social practices. As a result, corporate activity – including divestments, and mergers and acquisitions – have increased, while investor activism is also on the rise. Meanwhile, investors have been engaging Japanese firms on their environmental, social and governance practices. Japan’s wider embrace of sustainable investing is further strengthening the case for long-term strategic allocation. While encouraging, overall changes in the corporate sector remain relatively slow and incremental. In addition, inflation might be kept in check by new Covid-19 variants that slow global demand. Nevertheless, the catalysts for global investors to reconsider a bigger allocation to Japanese equities appear to be in place. While the Olympic baton has been passed to Paris for 2024, Japan’s markets look like they have a good, long run ahead. Paras Anand is chief investment officer, Asia Pacific, at Fidelity International