The market's reaction following Japan's general election indicates that investors have opted to extend Prime Minister Sanae Takaichi a temporary "presumption of innocence," shielding her spending agenda for now from the market volatility that had previously threatened it. With Takaichi's Liberal Democratic Party (LDP) securing its largest single-party victory in a lower house election since World War II, markets are betting that this overwhelming mandate will bring policy clarity and reduce the risk of the worst-case fiscal scenarios.

On Monday, Japanese equities surged to record highs following the election results. The Nikkei 225 index jumped as much as 5.7% intraday, breaching the 57,000-point milestone. Concurrently, the Japanese yen and government bond market exhibited greater calm than many analysts had anticipated, avoiding the sharp swings previously triggered by concerns over fiscal sustainability. This simultaneous rise in both stocks and the yen suggests the market is interpreting the election outcome as a removal of political uncertainty rather than an immediate signal for uncontrolled spending.

The positive investor sentiment primarily stems from expectations of policy stability. In a speech on February 9th, Prime Minister Takaichi explicitly committed to not financing consumption tax cuts through the issuance of deficit bonds, instead pledging to utilize non-tax revenues and a review of subsidies. This stance contrasts with earlier market fears of "reckless borrowing," and, combined with the ruling coalition's "super-majority" seat win, has reinforced expectations for policy continuity and controllability.

However, this trust may be fragile and short-lived. Traders remain acutely aware that Japan's room for maneuver on both fiscal and monetary policy has narrowed. Analysts warn that bond and currency markets could react swiftly if subsequent budget details reveal spending plans are unfunded or if inflationary pressures intensify.

**"Takaichi Trade" Resumes, Equities Hit Records** Boosted by the election outcome, Japanese stocks experienced a sharp rally, typical of the so-called "Takaichi Trade." Both the Nikkei 225 and the Topix index reached all-time highs on Monday. Strategists at JPMorgan, including Rie Nishihara, promptly raised their year-end target for the Nikkei 225 to 61,000 points following the election, citing enhanced expectations for political stability.

Frederic Neumann, Chief Asia Economist at HSBC, noted that the LDP's decisive victory would "inject momentum" into the equity market. He suggested that Takaichi now has a stronger mandate to push through structural reforms, potentially boosting productivity and corporate profits. Analysts widely believe sectors benefiting from Takaichi's spending plans, such as defense and semiconductors, could see a fresh wave of gains.

Market participants indicated that this victory dispels the political uncertainty that has plagued the ruling party since the assassination of former Prime Minister Shinzo Abe. Amir Anvarzadeh, a Japanese equity strategist at Asymmetric Advisors, stated that from a stock market perspective, the LDP's overwhelming victory is highly ideal.

**Fiscal Discipline Pledge Soothes Bond Market Concerns** Despite prior concerns that Takaichi's expansionary policies would trigger a bond sell-off, the Japanese Government Bond (JGB) market remained relatively calm on Monday after policymakers issued a series of reassuring signals. Although longer-dated JGB yields initially spiked, with the 10-year yield rising around 4 basis points to approximately 2.27%, they quickly retreated, alleviating fears of a disorderly sell-off.

A key turning point was Takaichi's clarification of her fiscal path. In her February 9th speech, while emphasizing the need to free Japan from excessive fiscal tightening and underinvestment, she clearly stated that tax cuts would be supported by non-tax revenues and trimming unnecessary subsidies, rather than simply increasing deficits. Previously, Finance Minister Satsuki Katayama had also stressed that the proposed consumption tax cut would be limited to two years and apply only to food items.

Sree Kochugovindan, Senior Research Economist at Aberdeen Investments, commented that the LDP's landslide win does not equate to a "blank check for spending." He pointed out that the LDP is fiscally conservative and that Takaichi has been highly attentive to bond investors' reactions. Kazuhiro Sasaki, Research Director at Phillip Securities Japan Ltd., added that the opposition's failure to make gains in the election means "a permanent cut in the consumption tax is effectively off the table," which is a significant relief for the bond market.

**Yen's Unexpected Strength Defies Typical Logic** Deviating from the typical "Takaichi Trade" dynamic, which often implies yen weakness, the Japanese yen strengthened against the US dollar on Monday, appreciating by 0.6% to 156.22 and moving further away from the 160 level that previously prompted intervention by Japanese authorities.

Michael Wan, Senior Currency Analyst at MUFG, suggested this atypical movement might reflect Takaichi's post-election commitment to fiscal sustainability, coupled with Finance Minister Katayama's remarks supporting yen stability and coordination with US authorities. Katayama stated earlier on Monday that authorities would not rule out action against rapid FX moves deviating from fundamentals, including market intervention.

While analysts at Citi believe the yen is unlikely to fall significantly beyond the 160 level, ING noted in a report that a tug-of-war between the market and authorities could emerge around the 159 mark.

**Diplomacy and Long-Term Challenges: From Washington Visit to Budget Deliberations** Looking ahead, market focus will shift to how Takaichi implements her "bold measures." Takaichi has expressed her desire to visit the United States next month and is scheduled to meet US President Donald Trump at the White House on March 19th. Discussions are expected to cover defense spending and investment commitments under Japan's pledged $550 billion package. Takaichi has emphasized that proactive fiscal policy will be key to her government's transformation, aimed at boosting investment in crisis management and cutting-edge technologies.

Although the market has found temporary comfort, the path forward is not without challenges. Kazuhiro Toyoda, Head of Japanese Equities at Schroders Investment Management, warned that bond market volatility could pick up again as details of the fiscal expansion plan unfold. An extraordinary Diet session is expected to convene as early as February to begin deliberating the FY2026 budget. Given that Japan is already the world's most indebted nation, with a debt-to-GDP ratio nearing 230% in 2025, any spending plan that appears unfunded could quickly reverse the current market sentiment.

David Chao, Global Market Strategist for Asia Pacific at Invesco Ltd., summarized that the combination of political stability, policy continuity, and reform options could be viewed positively by markets, but this hinges on sustained fiscal prudence.