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Moody's Worries Over Japanese Debt

Moody's has put Japanese debt on review for a possible downgrade, but stocks may be relatively unaffected.

TOKYO -- Japan's rapid spending spree to boost the economy is finally catching up -- or, perhaps more aptly, down -- with its sovereign debt rating.

Moody's Investors Service

Thursday placed Japan's Aa1 long-term sovereign debt rating under review for a possible downgrade, prompted by the extreme level of public-sector debt, which looks to reach 130% of

gross domestic product

in 2001. This would make the world's second-largest economy the king of public debt among industrialized nations.

A credit downgrade would depress bond prices and send interest rates higher, something corporate borrowers don't want to see since they'll have to pay extra when paying down debt. But the effect of a downgrade on equities will be muted by a powerful new force in Japan: mutual funds.

The Japanese have stockpiled about $10 trillion in personal savings, of which $680 billion is expected to flow into Japanese stocks and bonds over the next decade, according to

Norinchukin Research Institute

. And not only that, there are foreign funds plunking money into Japanese equities like mad, such as the


Matthews Japan Fund, which jumped 118.5% over the past year according to


, a fund-tracking company.

The fund invests in stocks like

Ichiyoshi Securities


Nippon Broadcasting System

, two firms in sectors that are expected to consolidate this year. More mergers and acquisitions, along with a mutual fund boom, make Japanese equities very attractive for fund managers, despite the government's fiscal dilemma.

"Today's statement by Moody's made it clear that the problem is not with corporate Japan, but the government's unsustainable fiscal policy. The price action in the equity market is testament to this," says Tim Kerans, strategist at

Barclays Capital

. Indeed, the

Nikkei 225

index climbed 1% on buying from fund managers and retail investors.

A credit downgrade, along with Japan Inc. booking profits before the March 31 fiscal year-end, could send the Nikkei 225 index to a low of 18,500, traders noted after the day's close. Although trading could become extremely choppy (but what market isn't these days), any price dip may just mean shares will be ripe for picking by the fund managers eagerly waiting on the sides.