TOKYO Currency hedging cost Japanese companies such as Honda Motor Co the chance to fully cash in on a weak yen last quarter, raising the risk that investor expectations could outrun earnings.
The near 20 percent fall in the currency since October has been a primary driver of the longest weekly run of gains for the benchmark Nikkei index .N225 since 1959.
But exporters may have been caught out by the magnitude of the yen's fall and bought too early, currency traders said.
"The rally is completely driven by hopes rather than facts," said Soichiro Monji, chief strategist at Daiwa SB Investments.
"We knew the yen's impact would be limited in October-December. Still I had thought the earnings would be a little bit better."
Analysts say a 1 percent decline in the value of the yen typically boosts corporate Japan's profits by about 1 percent. Auto, steel and electronics firms, all major exporters, reap the biggest benefit.
So they should be doing well in the fallout from Abenomics. New Prime Minister Shinzo Abe's drive for aggressive monetary easing and fiscal stimulus helped push the yen to a 2-1/2 year low of 92.29 to the dollar on Friday.
Japanese shares .TOPX are trading at more than 13 times forecast earnings, versus 11.6 at the end of September.
But warning signs come from firms like Honda (7267.T), which booked an unrealised loss on currency derivatives of 54.5 billion yen (375 million pounds) in the fourth quarter, mostly in currency products.
Honda's chief financial officer Fumihiko Ike told reporters that the company hedged currency trades three month ahead, a common practice among Japanese exporters that means their fourth quarter sales were booked at yen levels near a record high.
The cheaper yen will likely start filtering through to bottom lines from the January-March quarter, but many Japanese companies remain cautious about earnings.
Honda trimmed its annual net profit forecast unexpectedly, citing poorer-than-expected demand in China and Europe.
Camera and printer maker Canon Inc (7751.T), which derives 80 percent of its revenue from overseas and is seen as one of the most competitive Japanese firms, reported a fall in quarterly profits in October-December.
Although Canon forecast a 26.6 percent increase in operating profits to 410 billion yen this year, that fell short of analysts' 452.1 billion yen outlook.
Still, the 33-month high for the Nikkei on Friday is also based on hopes that a weaker yen will revitalise the Japanese economy, not just exports
"No hedge fund wants to miss the debasement of the yen, and the majority sees the Japanese equity market as the most likely best performer in H1," Bank of America-Merrill Lynch said in a note.
But a weaker currency also carries domestic risks, especially in terms of energy costs in a country where almost all fuel is imported.
"A weaker yen will boost our profits but if the yen falls too much, that's also negative because we require a lot of electricity," said Makoto Kubo, executive vice president of Toshiba Corp (6502.T), which produces flash memory chips among other things.
"It's difficult to say what is the best level but 90 yen per dollar is not so bad."