Nikkei 225 Trading: How to Invest in the Nikkei 225

 The Asian stock market is not popular and widely advertised around the world. However, in trading and investing, popularity is not always the key to success.

As an indicator of the state of the Asian financial market, the Nikkei 225 Index provides traders with high volatility and investors with stability and smooth price movements. The Asian philosophy of life and discipline influences the performance of companies in the region, which is reflected in the dynamics of the index quotes.

In this article, you will learn about the advantages of the Nikkei 225. An index worth paying attention to in addition to European and American instruments.

The article covers the following subjects:

What is the Nikkei 225 Index?

The Nikkei 225 or Nikkei Stock Average is the leading Asian stock index traded on the Japan Stock Exchange in Tokyo. The market capitalization of companies included in the index is about 60% of the total capitalization of the Tokyo Stock Exchange. The Nikkei index includes 225 shares of the largest Asian companies from more than 30 sectors of the economy.

The index gets its name from the Japanese newspaper Nihon Keizai Shimbun, which first published the total value of Japanese companies in September 1950.

Most of the companies in the Nikkei 225 are involved in large-scale production. 57 are included in the technology sector, 59 in the mining industry associated with the search, extraction, and processing of natural resources. Therefore, the quotes of the Nikkei index are significantly affected by the cost of copper, a strategically important industrial raw material for the entire Asian region. Thus, the Nikkei 225 serves as an indicator of the Japanese economy’s health, reflecting the industry’s situation.

Nikkei 225 Index overview

Nikkei 225 ticker: #JP225.

Nikkei 225 futures ticker: #NK.

Current price: 1 NK = 26 165.00 USD.

Based on: stock prices of the companies with the highest market capitalization listed on the Tokyo Stock Exchange. Their shares must be in the free float.

Main trading platforms: Tokyo Stock Exchange. Derivatives are also traded on such US exchanges as CME (Chicago Mercantile Exchange) GLOBEX, CBOE (Chicago Board Options Exchange), and Singaporean SGX.

Leverage: 1:100.

Margin percentage: 1%.

Maximum trade volume: 100 lots (100 CFDs, each equivalent to the current index price).

The size of one lot is equal to the market price of the Nikkei 225 index.

Nikkei 225 calculation

The Japanese borrowed the Nikkei 225 formula from Dow Jones in 1975. The US index is calculated using the same method.

Nikkei 225 = Sum (adjusted price N) / d, where:

• adjusted price N is the price of the company’s share adjusted for the lot. The price of shares, the minimum lot size of which is 100 or even 1000 pieces, is lower than those sold individually. For this reason, an adjustment is made;

• sum (adjusted price N) is the sum of the adjusted stock prices of 225 index companies;

• ‎d (‎divisor) is a special coefficient used in the calculation of the index to take into account the effects of changes in the number of stocks in circulation during a split or consolidation and the consequences of revaluation of the index basket.

Thus, the Nikkei 225 index change depends only on the share price change, not taking into account the current capitalization of companies. The free float indicator (the percentage of shares in free float) is also not considered.

The stock index is updated every five seconds during the working hours of the Japanese stock exchange.

Why Should You Trade or Invest in the Nikkei 225?

The Nikkei 225 is one of the best stock market indices diversified by the sector. It includes companies from 35 economic sectors. Therefore, an investment in the Nikkei 225 is similar in terms of diversification to a portfolio that includes hundreds of securities.

It is rebalanced every autumn. As a result, companies with negative development dynamics are replaced by new ones with better performance. This increases the possibility of growth of such an instrument compared to single shares, dependent on the financial health of a particular company.

Also, the Japanese market is characterized by political stability and business management discipline, which affects the value of shares of companies included in the Nikkei 225.

Nikkei 225 is highly volatile. The average daily value fluctuates around 500 points:

The average monthly value fluctuates around 1700 points:

This instrument is suitable for traders whose strategies are associated with impulse price movements.

The second advantage of the impulse trading style is the Tokyo Stock Exchange’s opening hours. It opens after the American trading session, so the first working hour is characterized by a strong reaction to the results of US trading. As a result, gaps regularly form on the Nikkei 225 price chart between the last session’s closing price and the opening price of the current one. This feature provides an opportunity to trade the Nikkei 225 in a countertrend expecting that the price will tend to close the gap.

The index also correlates well with the Dow Jones and the Japanese yen, allowing traders to use directional and arbitrage trading strategies.

How to Make Money with the Index?

It is possible to benefit from the Nikkei 225 price movement only indirectly:

	Intraday trading, medium-term investing	Position trading and long-term investing
Instruments	CFD, futures, options, stocks	CFD, futures, options, stocks, ETFs, mutual funds
Investment horizon	during the trading session	CFD, futures, options, shares ≥1 trading session ETFs, mutual funds ≥ 1 month
Average number of trades	from 20 per month	from 1 to 50 per year
Main timeframes	М1, М5, М15, Н1	Every timeframe
The impact of the spread on the result	strong	weak
Expected annual return	100% / year*	from 12% / year**
Probable maximum drawdown	37,5%***	from 12%****

* Based on the risk per trade of 1%, the ratio of profitable/losing trades is 50/50, the profit/loss ratio is 2/1.

** 12%/year is the average annual return of the Nikkei 225 over the past ten years.

*** According to the rules of hedge funds, reaching a drawdown of 37.5% indicates that the trading system is inoperable, as a result of which trading should be stopped.

**** According to the rule, the risk is directly proportional to the portfolio’s return.

Choose instruments depending on the Nikkei 225 investment horizon. It is reasonable to use CFDs, futures, options, or company stocks for short-term investments. For medium and long-term investments, use the above instruments, ETFs, and mutual funds.

During intraday trading, the price chart is analyzed in real time on time frames from M1 to H1. When investing, it is also possible to use small timeframes for a more accurate entry into a trade.

Due to the small value of intraday trades, their profitability is highly dependent on the spread. The larger it is, the more profitability decreases.

Key Nikkei 225 Trading Strategies

Let’s consider one simple strategy and a more complicated one. The first Nikkei 225 trading strategy is based on the divergence between price and Force Index. It shows the principles of counter-trend Nikkei 225 trading. The second strategy builds on a direct correlation between the Nikkei 225 and the Japanese yen, namely the USDJPY, which outperforms the index by several weeks. Therefore, USDJPY technical analysis can help predict the Nikkei 225 index’s future rate.

Divergence with Force Index Strategy

Price movements are not characterized by V-shaped reversals, that is, when the price rises sharply and then plummets. This happens during the release of important news. In other cases, the price movement resembles a heavy truck, which first slows down for a long time and only then turns around.

This slowdown effect appears on the Nikkei 225 price chart as a divergence in the dynamics of the price and the oscillator. The essence of the phenomenon is that before a reversal, the price usually continues to move by inertia, but the indicator helps to identify the slowdown.

It is necessary to use indicators Force Index (13) and Fractals.

Timeframe M30. Smaller timeframes in the case of Nikkei 225 are too heavy to analyze, and the impact of the spread will be stronger there.

Analyzing the chart in the form of a price line will help to focus better. Like the Force Index indicator, the price line is based on closing prices. Therefore, the picture will be easier to analyze.

Let’s take a look at the Nikkei 225 chart:

The price continues to decline, updating the low. However, the Force Index shows a decrease in the price movement strength. The new low of the indicator is higher than the previous one. This Nikkei 225 trading signal indicates an increase in reversal possibility, which makes purchases reasonable.

Below is an example of an uptrend slowdown:

The price updated the high, but the Force Index indicators show a “slowdown,” as the new indicator high is lower than the previous one. Thus, the probability of a downward reversal increases, and sales become relevant.

To enter a trade, traders can use a candlestick or bar chart. It is also possible to use the Engulfing Price Action pattern when a new candlestick’s closing value overlaps the previous candlestick range.

Rules for entering purchases:

• the new price low is lower than the previous one, and the new Force Index low is higher than the previous one;

• the price is higher than the candle that formed the low;

• stop loss is set behind the price low;

• take profit is 1/1 or 1.5/1 compared to the stop loss value.

The blue arrow indicates the moment when the price crossed the candle that formed the low. This is a buy signal. The red horizontal line shows where the stop loss is set.

Rules for entering sales:

• the new price high is higher than the previous one, and the new Force Index high is lower than the previous one;

• the price is higher than the candle that formed the high;

• stop loss is set behind the price high;

• take profit is 1/1 or 1.5/1 compared to the stop loss value.

For sales, the same conditions apply, but vice versa. The blue horizontal level is drawn along the bottom of the candle that formed the high. The blue arrow points to the candle that has broken out this level.

It is better to enter trades using pending orders. Set Buy Stop for purchases and Sell Stop for sales. Since the strategy is traded on the M30 timeframe, the trader will have enough time to set the above-mentioned orders.

A small take profit/stop loss ratio is due to the fact that the strategy is counter-trend. Its purpose is to catch small price rebounds, and not try to enter trades at the beginning of a new trend.

‎Correlation with USD/JPY Strategy

After the 2007 financial crisis, the correlation between the Nikkei 225 and the Japanese yen changed from reverse to direct. Therefore, the Nikkei 225 and the USDJPY currency pair have an inverse correlation since the Japanese yen is the quoted currency in this pair:

This strategy is based on the fact that the Nikkei 225 tends to lag behind the USDJPY. This makes it possible to predict the future dynamics of the index based on the growth or fall of the USDJPY price.

The strategy is more suitable for Nikkei 225 investments. However, it is also possible to trade it intraday.

First, place the Nikkei 225 and USDJPY charts next to each other. Then put the RSI indicator with a period (13) and levels of 30, 50, and 70 on each of them. The working timeframe for both charts is D1. For long-term investment, it is possible to use the weekly chart.

Charts can also be placed horizontally. However, this is not necessary, as the Nikkei 225 signal appears after the USDJPY movements and not simultaneously with it.

To begin with, wait for a signal about the potential start of USDJPY price movement to appear. For this purpose, the RSI indicator (13) is used. It shows the ratio of descending and ascending price candles for a given number of periods. In our case, for the last 13 days.

• RSI (13) < 50 for a downward movement means that over the past 13 days, the price has decreased in more than half of the cases;

• RSI (13) > 50 for an upward movement means that over the past 13 days, the price has risen in more than half of the cases.

Remember that RSI (13) for USDJPY does not go beyond the critical levels of 30 and 70, respectively.

Next, find on the Nikkei 225 chart the moment when the price has not yet reversed towards the USDJPY movement. However, the probability of this is above average. For this, overbought and oversold conditions are used. That is, the longer the price rises or falls without correction, the higher the probability of a reversal.

• RSI (13) > 70 indicates an increased probability of the end of the upward movement and a downward reversal;

• RSI (13) < 30 indicates an increased probability of the end of the downward movement and an upward reversal.

A signal to enter a trade appears if the corresponding conditions on USDJPY and Nikkei 225 occur simultaneously.

Conditions for Nikkei 225 buy trade:

 Conditions for Nikkei 225 sell trade:

It is better to open a Nikkei 225 trade after the RSI indicator (13) leaves the overbought zone:

Otherwise, it is impossible to set a stop loss reasonably since overbought/oversold conditions do not guarantee an instant reversal.

The buy entry signal appears on September 30. But the RSI (13) on the Nikkei 225 leaves the oversold zone the next day. The blue horizontal line marks the level of entry into the trade at the top of the price candle, after the formation of which RSI (13) rose above the level of 30. The place for setting the stop loss is marked with a red horizontal line.

A sell signal appears on September 3. However, RSI (13) exited the overbought zone on September 17. The entry level is marked with a blue horizontal line at the bottom of the price candle. After its formation, RSI (13) fell below the level of 70. The place where the stop loss has been set is also marked with a red horizontal line.

Look for the RSI indicator (13) entry signals on both charts only after the price candle closes.

According to the strategy, the take profit is from 1:1 to 2:1 in relation to the stop loss value. With a higher value of the RSI indicator, the take profit should be increased. Thus, due to the analysis of a larger number of periods, it will be possible to capitalize on more significant price movements, but at the same time, the share of profitable trades will decrease.

Ways to Trade the Nikkei 225

Nikkei 225 is traded by means of derivatives:

• CFDs are concluded between a trader and a broker regarding future asset price changes. CFDs are provided in the Forex market;

• Futures. The index serves as the underlying asset of the Nikkei 225 futures. Therefore, unlike oil or metal futures, it does not imply physical delivery of the asset. It is traded in the exchange market;

• Options. These instruments allow traders to purchase the underlying asset at a certain price in the future. While trading the Nikkei 225, a futures contract for this index serves as the underlying asset;

• ETFs give the right to a part of the investment portfolio compiled by the issuing company. In the case of the Nikkei 225, the portfolio comprises companies’ stocks included in this index.

CFDs allow traders to earn on asset price changes without owning it. The parties compensate each other for the price difference from the moment of the conclusion of the contract until its termination.

Nikkei 225 Cash CFDs

CFDs allow traders to earn on asset’s price changes without having to own it. The parties compensate each other for the price difference from the moment of conclusion of the contract until its termination.

When trading Nikkei 225 CFDs, traders can use the highest leverage compared to other instruments. As a result, trading with a minimum volume does not require a large deposit.

Nikkei 225 CFD price chart:

It will take about $4 to open a trade with a volume of one contract, with a leverage of 1:100. The cost of one point, in this case, is $0.02.

The current spread is 4-6 pips, and the average daily range (the average distance the price passes per day) is about 366 pips. If an intraday trader can capitalize on about 30% of the trade’s movement (120 points), then the spread will be 2-3% of the final result. This figure is below average. However, as the size of a profitable trade decreases, the spread effect will increase. Thus, it is undesirable to use 225 CFDs for scalping. It is better to enter the classic day trading, which includes one or two trades, with a profit potential of 20-30% of the average daily range.

Thus, for comfortable trading with a minimum volume with a risk of about 1% per trade and a stop loss of 10% of the average daily range (35-40 points), traders will need $80-100.

Nikkei 225 CFDs fluctuate the most during the Asian session, as shares of the index companies trade during the Tokyo Stock Exchange working hours.

 

Nikkei 225 Futures

Futures have higher requirements for deposit size than CFDs since the exchange can only rarely offer leverage of more than 1:5.

There are two types of Nikkei futures:

1. Classic (with the NK ticker)

Below is the Nikkei 225 futures chart (M-15 timeframe):

The contract size is calculated by the formula:

1,000 yen x current Nikkei 225 price

The current contract size is 1000 x 28120 = 28,120,000 yen or about $200,000.

To buy one such contract with a leverage of 1:5, it is necessary to have at least $40,000 in the trading account.

The price of 1 point is 1000 yen or about $7.

2. Mini-contract (with NP ticker)

Below is the Nikkei 225 mini futures chart (timeframe D1):

The contract size is calculated by the formula:

100 yen x current Nikkei 225 price

The current contract size is 100 x 28120 = 2,812,000 yen or about $20,000.

It is necessary to have at least $4,000 to enter a trade.

The price of 1 point is 1000 yen or about $0.7.

Both contracts are denominated in Japanese yen. The main trades take place on the Chicago Mercantile Exchange (CME) and the Tokyo Stock Exchange (TSE).

Due to the almost zero spreads, futures are more suitable for short-term trading and scalping, as the impact on the result of trades will be minimal. These instruments are most volatile in the first two hours after the opening of the relevant exchange, the CME or the TSE.

Nikkei 225 Options

There are two types of options:

Thus, the futures market serves as the underlying market for options.

A trader’s forecast about the future movement of the options price is limited by time. Therefore, not the event of an increase (in the case of a call option) or a decrease (in the case of a put option) of the value of an asset is fundamentally important for an option trader, but that this event happens after a predetermined time.

Let’s say the price rose from 27100 to 27200 in 10 minutes and then dropped to 27150 during the next 20 minutes. A trader who bought a put option with the expectation that the price would rise above 27170 in 30 minutes is most likely not exercising his right to buy the asset. Because even though the price reached 27200, it later fell to 27150 and, at a given point in time, was below the desired value. In the same case, a CFD or futures trader who set a take profit of around 27190 would close the trade with a profit. On the other hand, an options trader would not take a loss similar to the triggering of a stop loss.

Options give the right to withdraw from a transaction if the price has not gone in the desired direction. In this case, the expenses of options traders are limited by the size of the option premium they risk in their trades.

If the price changes in the right direction according to the forecast, the traders can exercise their right and make a profit as from a classic trade.

Nikkei 225 ETFs

ETF is an instrument for long-term trading and investment. The Nikkei 225 ETF issuer forms a stock portfolio in accordance with the structure of the index. Buyers of the ETF are entitled to a portion of this portfolio (in particular to dividends), similar to the actual ownership of stocks. This investment instrument involves long-term investments.

The most popular Japanese Nikkei 225 ETFs:

Over the past two years, the NEXT FUNDS Nikkei 225 Leveraged (blue line) has outperformed the Nikkei 225 (red line) in terms of returns, 15.52% vs. 7.58%. Currently, the ETF price is around 14,600 yen, or $103.66. The chart is presented as of November 20, 2022.

The yield of the Daiwa ETF Japan Nikkei 225 Double Inverse (blue line) has been underperforming the benchmark, the Nikkei 225 index (red line), over the past two years. This ETF suffered a loss of -19.79%, while the index’s return was 7.58%. The cost of this ETF is one of the lowest, 900 yen or $6.5.

The largest-cap Nikkei 225 ETFs include U.S. companies:

Name	Ticker	Issuer	Commission	Capitalization, billion $
iShares MSCI Japan ETF	(EWJ)	Blackrock	0,47%	12,7
JP Morgan Betabuilders Japan ETF	(BBJP)	JPMorgan	0,19%	3,9
Wisdomtree Japan Hedged Equity fund	(DXJ)	Wisdomtree	0,48%	2,95

I do not recommend trading Nikkei 225 ETF intraday, as there are more convenient and liquid instruments for trading.

Ways to Invest in the Nikkei 225

There are three ways to invest in the Nikkei 225:

• investing in stocks of companies included in the index;

• investing in Nikkei 225-based funds (ETFs, mutual funds);

• investing in derivative financial instruments (futures and options).

The first method has the lowest efficiency in terms of advantages and disadvantages. Before investing in the Nikkei 225 by purchasing the index stocks, it is necessary to accumulate a substantial sum of money. Some stocks are traded only during working hours of the Tokyo Stock Exchange, which increases the probability of gaps and, as a result, unpredictable losses. Since some stocks of Japanese companies are not highly liquid, it can be difficult to sell them. Investors may have to agree to a lower sale price if there are no buyers at the desired price.

Investing in funds is the most suitable method if the investor’s goal is to profit from the Nikkei 225 dynamics. ETFs follow the underlying asset dynamics more accurately than mutual funds, whose managers can form a portfolio of stocks with different proportions than in the index. As a result, the return of a mutual fund can differ from the benchmark, both for better and worse. ETFs have minimal fees, on average, about 0.5% of the investment value. ETF fees are lower than that of mutual funds because there is no need to pay fees to the fund manager. Also, by trading ETFs, traders can receive dividends from stocks of Nikkei 225 companies.

Investing in futures and options is more suitable for experienced investors who are not looking for similarities with the dynamics of the Nikkei 225 index. Nikkei 225 stocks’ derivatives are traded on most of the world’s exchanges, so the probability of gaps is extremely small. This allows traders to predict risks better. On the other hand, creating a portfolio of futures and options by analogy with the Nikkei 225 index will also require a significant sum of money, just like buying stocks. This method is suitable for short- and medium-term investors interested in investing in some Nikkei 225 companies and forming their own portfolios.

What Drives the Nikkei 225 price?

The index is influenced by the Bank of Japan, which is among the top 10 shareholders of 90% of the index’s companies. As a part of economic stimulus measures, the bank annually invests millions of dollars in the assets of Japanese blue chips.

The Nikkei 225 is sensitive to economic developments in the US, Japan’s main trading partner, on which the volume of exports depends. Therefore, the well-being of Japanese companies is associated with a change in the US purchasing power. Changes in the following indicators of the US economy have the greatest impact on the index:

• GDP;

• the number of new jobs;

• CPI;

• RSI.

Due to the large share of exports, the index reacts positively to the JPY depreciation. This makes the production of Japanese goods cheaper and, as a result, increases their competitiveness in the world market.

The Nikkei 225 is also affected by the state of the Chinese economy, as large Japanese manufacturing companies have many Chinese branches.

The index is regularly affected by natural disasters due to the large share of manufacturing companies and Japan’s geographical location. After the accident at the Fukushima-1 nuclear power plant caused by the tsunami, the index fell sharply by 11%.

 

How does the Nikkei 225 reflect the economic situation?

The index characterizes the state of the Japanese economy but with low accuracy. Japanese products are too export-oriented, so the dynamics of the index also reflect changes in the volume of US-China bilateral trade and economic indicators.

Since the share of technology companies in the index is more than 40%, the indicators characterize the economic situation in this industry to a greater extent.

Pros and cons of Nikkei 225 trading

The Nikkei 225 is well diversified by sectors and the number of companies included. Such index derivatives as futures, options, ETFs, and CFDs have above-average liquidity. The Nikkei 225 is also highly volatile, as more than a third of companies are in the high-tech sector. This is noticeable during the intraday Asian session and swing trading when analyzing timeframes over D1. Nikkei 225 is more stable during crises than its European and American counterparts due to the large number of real sector companies included in it.

The disadvantages of the index are related to the narrowness of the Asian market and its dependence on exports. The US economy recovers faster from crises due to abundant resources, while the Asian economy needs more time, which affects the index dynamics. Also, the working hours of the Tokyo exchange, where the Nikkei 225 is traded, are less convenient for European and US investors compared to the CME or LSE exchanges.

Pros:

• diversification leader;

• increased liquidity;

• increased volatility: this is one of the most volatile stock indices;

• offers a wide range of derivative instruments;

• the index is influenced by fewer factors that affect company’s stocks;

• most companies are included in the real sector of the economy.

Cons:

• inconvenient trading time for European and US residents;

• high probability of gaps;

• slow recovery after drawdowns, in comparison with US indices;

• a large number of external factors affecting the index dynamics.

List of the Nikkei 225 Companies

The Nikkei includes the 225 largest Japanese companies. The index is considered the most diversified in the world. The electronics sector includes 29 companies, making it the largest one. It is followed by the chemical sector (18 companies), the machine-building sector (16), and the financial sector (11).

Nikkei 225 top companies (by market capitalization):

Name	Capitalization (trillion JPY)
TOYOTA MOTOR CORP	27.743
KEYENCE CORP	14.251
SONY GROUP CORPORATION	13.959
NIPPON TEL & TEL CORP	13.257
SOFTBANK GROUP CORP	9.592
MITSUBISHI UFJ FINANCIAL GROUP INC	9.016
KDDI CORPORATION	8.959
DAIICHI SANKYO COMPANY LIMITED	8.846
FAST RETAILING CO LTD	8.393
NINTENDO CO LTD	7.572
RECRUIT HOLDINGS CO LTD	7.239
SHIN-ETSU CHEMICAL CO	6.972
TOKYO ELECTRON	6.967
SOFTBANK CORP	6.945
HITACHI	6.909
DAIKIN INDUSTRIES	6.609
MITSUBISHI CORP	6.511
SUMITOMO MITSUI FINANCIAL GROUP INC	6.279
ITOCHU CORP	6.253
TAKEDA PHARMACEUTICAL CO LTD	6.225

Nikkei 225 Trading Hours

Nikkei 225 trading hours are from 00:00 to 07:00 (GMT) as the index is traded on the Tokyo Stock Exchange.

Below is a list of the main exchanges for trading index derivatives (futures, options, ETFs):

• Chicago Mercantile Exchange (CME). Working hours: 15:00 to 23:00 (GMT);

• Chicago Board Options Exchange (CBOE). Working hours: 14:30 to 21:00 (GMT);

• Singapore Exchange (SGX). Working hours: 00:30 to 09:00 (GMT).

Weekend trading is not available for the Nikkei 225.

Conclusion

Nikkei 225 is the most diversified index. Companies from classical and high-tech industries are proportionally represented in it, which increases Nikkei’s profitability potential during the growth of the global economy and provides stability during crises.

Nikkei 225 is not the most popular index among traders and investors. It is considered a rather complex instrument, as it is influenced by the economies of Japan’s partner countries.

It is better to enter Nikkei 225 derivatives trades during the Asian session when liquidity and volatility are at their highest. If a trader does not exit trades before the end of the trading session, the chance of gaps will be high. Trading CFDs partially solves this problem on weekdays.

The Nikkei 225 is not the highest-yielding index, so it is better to consider long-term investments in it as a way to preserve capital and hedge against inflation.

Price chart of NI225 in real time mode