TOPIX 2.0: from census index to selected universe

TL;DR

• TOPIX is the Tokyo Stock Price Index. It is one of the main benchmarks for Japanese stocks. For more than 30 years, TOPIX mostly followed the 1st Section of the Tokyo Stock Exchange. If a company entered the 1st Section, funds that tracked TOPIX usually had to buy it.

  At its peak, TOPIX had about 2,200 constituents. Constituents are the companies included in an index. JPX's December 2019 Reiwa report called this the single largest distortion in Japanese equity markets. The problem was not only the number of companies. It was also that TOPIX included companies whose shares were difficult for investors to buy and sell.

• Phase 1 (Oct 2022 – Jan 2025) reduced TOPIX from about 2,100 to about 1,700 constituents. JPX phased out companies whose tradable-share market cap was below JPY 10 bn. Tradable-share market cap means the market value of shares that ordinary investors can actually trade.

  JPX did not remove all companies at once. It reduced their index weights through eight quarterly weight-reduction steps. That schedule spread the selling impact across time instead of forcing one large trading event.

• Phase 2 (Oct 2026 – Jul 2028) separates TOPIX from market-segment membership. Market-segment membership means whether a company is listed in Prime, Standard or Growth. A company in any of those segments can still qualify for TOPIX.

  JPX will ask two practical questions. Are enough shares freely tradable? Do those shares actually trade? The first test is annual trading-value turnover ratio ≥ 0.14. The second test is inclusion in the top 97% by cumulative free-float market cap.

  In plain terms, JPX ranks companies by freely tradable market value and keeps the group that makes up the top 97%. JPX Indexes Inc. estimated in July 2024 that TOPIX will have about 1,200 constituents by July 2028.

Why does TOPIX reform belong with segment reform?

Before 2022, Japan had two connected problems. The first problem was how listed companies were sorted. The 1st Section had become too broad. It no longer worked well as a signal of quality, scale, or investor access.

The second problem was how investors bought those companies through TOPIX. TOPIX is the Tokyo Stock Price Index. Many funds use it as a benchmark for Japanese equities. For more than 30 years, TOPIX copied the 1st Section almost automatically.

That automatic link mattered. If an investor bought TOPIX, that investor bought every 1st-Section company. The amount bought depended on each company's free-float market cap.

Free-float market cap means the market value of shares that ordinary investors can buy and sell. It excludes shares that are locked up or held by stable shareholders. Index funds usually weight companies by this number because it represents shares investors can actually trade.

The old rule gave companies a clear reward for entering the 1st Section. A company could enter through a direct IPO under tighter criteria. It could also move up from the 2nd Section under softer criteria. In both cases, once the company entered the 1st Section, TOPIX-linked funds usually had to buy it.

The December 2019 Reiwa report from the Financial System Council's expert study group described the problem clearly. It said the 1st Section had become "more of a broad census than a selective index." In plain terms, TOPIX was not choosing companies. It was mostly counting every 1st-Section company.

The reason this mattered was capital flow. Capital flow means money moving into or out of shares. A company could receive buying from index funds simply by reaching 1st-Section status. That buying did not depend on whether outside investors could trade the shares easily. It also did not depend on whether the company used capital well.

The report also estimated that 60% of TOPIX constituents were not earning their cost of capital. Cost of capital is the return investors require for giving money to a company. If a company earns less than that, it is not creating enough value for those investors.

This estimate showed why the old index design mattered. TOPIX was sending index-fund money to many companies with weak capital efficiency. The report said the rules of the market were part of the problem. It was not only that some companies performed poorly.

The report's policy recommendation had two parts. Japan needed to redesign the market segments, as explained in Theme 3.1. Japan also needed to redesign TOPIX. The reason was simple. Segment labels and index membership had been tied together.

If Japan changed only the market segments, part of the old incentive would remain. Companies would still have a reason to seek Prime status just to receive buying from TOPIX-linked funds. Segment reform and TOPIX reform therefore had to move together.

TOPIX also needed a clearer list of listed companies to choose from. Segment reform created that list by replacing the old sections with Prime, Standard, and Growth. TOPIX reform then changed how the index selects companies from that listed universe.

What happened in Phase 1 (Oct 2022 – Jan 2025)?

JPX announced TOPIX reform in stages alongside the segment restructuring. Phase 1 began in October 2022, six months after the new market segments launched. JPX first used the new segment rules to help decide TOPIX membership. During that period, TOPIX was moving away from the old 1st Section link.

JPX's main Phase 1 test asked whether each company had enough tradable market value. The metric was tradable-share market cap. This means the market value of shares that investors can actually trade.

If a TOPIX constituent had tradable-share market cap below JPY 10 bn as of the Phase 1 base date, JPX designated it a "Phase Transitional Stock." The label meant the company would not disappear from TOPIX immediately. Instead, its weight in the index would fall step by step.

JPX reduced the TOPIX weight of each Phase Transitional Stock over eight quarterly steps, ending in January 2025. In an index, weight means how much a company counts in the benchmark. At each quarterly step, JPX cut 1/8 of the company's original transition weight. By step 8, the company had zero weight and left the index.

The eight-step schedule was a policy choice. JPX said gradual reduction would limit sudden trading pressure from large passive flows. Passive flows are trades made by funds that track an index instead of choosing each company one by one. If TOPIX removes a company, those funds usually need to sell.

A one-time removal of more than 400 constituents would have created two problems. First, index funds would have faced tracking error. Tracking error means a fund's portfolio no longer matches the index it promised to follow.

Second, individual companies could have faced sudden selling pressure. Many funds would have needed to sell the same shares around the same time. The eight-step path spread that adjustment over 27 months.

Phase 1's outcome:

• Starting constituent count (Oct 2022): ~2,100.
• Ending constituent count (Jan 2025): ~1,700.
• Reduction: ~400 constituents, or ~19% of the index by name count.

The numbers show what Phase 1 did. TOPIX had about 2,100 constituents in October 2022. By January 2025, TOPIX had about 1,700 constituents. That means JPX removed about 400 companies, or about 19% of the index by name count.

The meaning is clear. Phase 1 mainly removed companies whose tradable market value was too small. JPX used a similar idea in Prime continued-listing criteria: companies should have enough shares that ordinary investors can trade.

By early 2025, TOPIX had more weight in companies that were larger and easier to trade than at the 2022 starting point. The next question is which companies will lose weight in Phase 2. That answer depends more directly on actual trading activity.

What changes in Phase 2 (Oct 2026 – Jul 2028)?

Phase 2 was announced in JPX's "Overview of Revisions of TOPIX and Other Indices" in 2024. It finishes the move away from automatic TOPIX inclusion. Automatic inclusion means a company enters TOPIX because of its listing label.

Prime, Standard, and Growth still tell investors which listing rules apply to a company. But TOPIX inclusion no longer depends on whether the company belongs to Prime, Standard, or Growth.

Under Phase 2, TOPIX can draw constituents from Prime, Standard and Growth. The segment label is no longer the main gate. Instead, JPX asks two practical questions. Are enough shares available for outside investors to trade? Do those shares actually trade often enough for index investors to hold them?

JPX uses two tests to decide whether shares are investable enough for TOPIX:

• Annual trading-value turnover ratio ≥ 0.14. This ratio divides the yen value of shares traded in one year by free-float market cap. JPX uses 0.14, or 14%, as the threshold. The test matters because a company can look large on paper but still fail if its shares rarely trade. The practical check is whether traded value stays at or above 14% of free-float market cap.
• Inclusion in the top 97% by cumulative free-float market cap. JPX ranks companies by the market value of shares that investors can actually trade. It then adds those market values from the largest company downward. Companies stay eligible if they are inside the top 97% of that cumulative total. The test is not very strict because it removes only the smallest 3% after ranking companies by freely tradable market value.

Constituents that do not meet these criteria will have their TOPIX weight reduced over eight quarterly steps from October 2026 through July 2028. This uses the same gradual approach as Phase 1.

JPX Indexes Inc. estimated in July 2024 that the final constituent count will be about 1,200 by July 2028. The fact is the count falls from about 1,700 to about 1,200. The meaning is that Phase 2 removes another large group of companies by name count. Investors should watch whether each company passes both tests: trading activity and freely tradable market value.

The important change is that a company's market label and TOPIX membership are now separate. The market label says whether the company is listed in Prime, Standard, or Growth. TOPIX membership says whether index funds that track TOPIX need to hold the shares.

The reason this matters is that the label no longer settles the index question. Liquidity means investors can buy and sell shares without unusual difficulty. A Standard-listed company with strong liquidity can be in TOPIX if enough of its shares trade and it sits in the top 97% by float.

The opposite can also happen. A Prime-listed company with weak liquidity can be out of TOPIX. The Prime label still matters for listing rules, but it does not by itself create TOPIX demand.

That changes how companies attract money from index funds. Passive demand means buying from funds that must hold a stock because the stock is in an index. Under the old regime, the path to passive demand ran through the 1st Section.

Under Phase 2, the path runs through actual trading activity and available float. If a Prime company and a Standard company have the same free float and trading activity, the Prime label alone does not make the Prime company more attractive to TOPIX-linked funds.

How do Phase 1 and Phase 2 fit together?

Two points matter when you read the timeline.

First, the total reduction from peak is large. TOPIX had about 2,200 constituents in 2021. JPX expects about 1,200 by 2028. That is a reduction of about 45% by name count. Put simply, the 2028 TOPIX will be roughly half the size of the 2021 TOPIX by number of companies.

The change is smaller if measured by free-float weight. Free-float weight measures how much of the index sits in shares that investors can actually trade. Many removed companies were small, so their weight was limited.

But IR teams often care about a yes-or-no question: is our company in TOPIX or not? For that question, the name-count reduction matters.

Second, the sequence creates a 20-month interim period. This period runs from February 2025 to September 2026. Phase 1 is complete, but Phase 2 has not yet started. During this window, Standard and Growth issuers can work on the liquidity measures needed for Phase 2.

By the time Phase 2 begins, companies know the criteria. They also know the measurement window for the first selection. That means each company can estimate its own position before the first Phase 2 decision. The practical check is whether its free float and trading activity clear the thresholds.

What do the Phase 2 tests actually measure?

The two Phase 2 criteria test different things. One test asks whether shares trade often enough. The other asks whether the value of freely tradable shares is large enough.

Annual trading-value turnover ratio ≥ 0.14. This is the circulation test. It asks whether freely tradable shares actually trade. A company can have a large float in theory but still fail if its shares rarely change hands.

This can happen when many shares are held by long-term institutions or passive vehicles. Passive vehicles are funds that hold shares mainly because an index tells them to.

For Japanese mid-cap issuers, the 0.14 threshold means 14% of free-float market cap trades in a year. The level is achievable but not automatic. About a third of companies that are currently eligible for TOPIX sit close to or below it.

The practical check is whether the company can keep traded value above the threshold during the measurement period. If traded value falls below the threshold, the company can look investable on paper but still fail the TOPIX liquidity test.

Top 97% by cumulative free-float market cap. This is the size test, but it is not a severe size test. JPX excludes only the smallest 3% after ranking companies by freely tradable market value. For a TOPIX universe of about 1,700 names, that translates into roughly the bottom 50–100 names by float.

The two tests can fail at the same time. A small-cap Prime issuer may look large if you count all shares. But the shares available to outside investors may be limited. For example, a founder may still hold 60% of the shares.

In that case, the company can have a small free-float market cap and a turnover ratio below 0.14. Under the old regime, that company would have been in TOPIX automatically through 1st-Section membership. Under Phase 2, it is likely to be out.

The opposite is also possible. A Standard-listed company with widely distributed shareholding, no founder block, and strong daily trading volume can qualify for TOPIX even though its segment label is Standard.

How does TOPIX reform change what listed companies should do?

The separation of segment status from TOPIX status changes what IR teams need to explain. Segment status is the market label. TOPIX status determines whether TOPIX-linked index funds need to hold the shares. Once these two facts are separate, companies must explain both to investors.

For Prime issuers with concentrated shareholding: the path to passive demand now runs through more freely tradable shares, not just through segment status. Companies may need to expand float through secondary offerings, sales by strategic holders, or share consolidations.

The tradable-share-ratio rule in Theme 3.2 and the TOPIX tests point in the same direction. Both push companies to have more shares that outside investors can trade.

For Standard-listed names with strong liquidity: TOPIX inclusion is now possible without moving up to Prime. A Standard listing with high turnover and meaningful float can attract buying from funds that track TOPIX. Under the old system, that kind of TOPIX-linked buying was available only through 1st-Section membership.

For Growth-listed names: TOPIX inclusion is theoretically possible under Phase 2. In practice, the size filter and turnover test will exclude most Growth issuers. The signal still matters because a Growth issuer that reaches enough scale can enter TOPIX without first moving to Standard or Prime.

Put together, three changes alter what listed companies are trying to optimize for. Prime has a tradable-share-ratio rule. Phase 1 removed smaller companies from TOPIX. Phase 2 separates TOPIX from segment status.

Companies therefore cannot rely only on a market label. They need enough shares available for trading, and enough actual trading, to attract the investor base they want.

The old question was, "what segment should I be in?" The new question is, "what free float and trading activity do I need to attract the investor base I want?" In practical terms, companies now need to think separately about segment obligations, TOPIX eligibility, free float, and trading activity.

Why is the eight-quarterly-step mechanism itself a policy?

JPX has now used the eight-quarterly-step approach twice: once in Phase 1 and again in Phase 2. This is not just an administrative detail. It is a policy choice about how to change an index without forcing one large trading event.

The eight-step method does four things:

• It spreads selling pressure over 27 months. Spreading the sales reduces the cost that can arise when many passive funds sell at the same time.
• It gives active investors predictability. They can estimate when index weights will fall and decide how to trade around those dates.
• It gives issuers time to respond. Companies may use buybacks, share consolidations, or float expansion to try to preserve their position.
• It helps JPX show that the rule change is fair and orderly. JPX visibly avoids the "cliff" structure that drew criticism in segment reform.

The last point is important. The transitional-measures cliff in Theme 3.3 is procedurally a cliff. If a company fails at the record date, it enters the improvement period. The improvement period is the time allowed to fix the listing-standard problem.

The TOPIX reforms are different. They use glide paths, meaning index weights fall gradually rather than all at once.

JPX now has a repeatable method for changing index rules gradually. In plain terms, it has a standard tool for moving from old index rules to new index rules without one large trading event. That tool is an index-transition tool.

JPX is likely to use the same template for future index reforms, including the JPX Prime 150 and other thematic indices. JPX has not promised this for every future index. The article infers it because JPX used the same method twice.

What should IR teams do now?

1. Know your TOPIX status and your Phase 2 trajectory. Calculate your annual trading-value turnover ratio and your free-float market cap quarterly. If you are in the bottom 3% by float or below 0.14 turnover, your TOPIX weight will be reduced in Phase 2. Your investor messaging should prepare for that outcome.
2. Explain the market label and TOPIX membership as two different facts about the company. A Prime listing without TOPIX inclusion sends one message: the company meets the segment standard, but TOPIX-linked index funds do not need to own it. A Standard listing with TOPIX inclusion sends another: the shares are large and active enough for index investors to hold, even without Prime obligations. IR teams should be ready to explain both cases.

3. Treat liquidity as a strategic objective, not a passive outcome. Liquidity means investors can buy and sell shares without unusual difficulty. Free-float expansion means increasing the shares that outside investors can trade. Building trading volume means giving investors enough information and access so more investors are willing to trade the shares.

   IR should also be involved in decisions about free float alongside the CFO. These decisions include secondary offerings, sales by strategic holders, and the timing of share consolidations.

4. Use the interim period (Feb 2025 – Sep 2026) as a window of action. Phase 2 criteria are known. The measurement period for the first selection is defined. Issuers that finish 2026 with strong turnover and float metrics will be safely in. Issuers that do not will face an eight-quarter weight reduction starting October 2026.
5. Use the JPX Indexes "Revisions of TOPIX and Other Indices" PDF as the primary source. This JPX document controls the technical details. IR teams should use it for the eligibility criteria, the weight-reduction schedule, and the base dates. Treat it the same way you treat the Continued Listing Criteria PDFs.

Sources & further reading

• JPX, "TOPIX (TPX)," https://www.jpx.co.jp/english/markets/indices/topix/
• JPX, "Overview of Revisions of TOPIX and Other Indices" (PDF, 2024), https://www.jpx.co.jp/english/markets/indices/revisions-indices/b5b4pj0000049s3x-att/RevisionsofTOPIX_e.pdf
• JPX, "Second stage of revisions," https://www.jpx.co.jp/english/markets/indices/revisions-indices/02.html
• JPX, "Revisions of TOPIX," https://www.jpx.co.jp/english/markets/indices/revisions-indices/index.html
• FSA, "Publication of report by the Expert Study Group on Capital Markets in Japan" (27 Dec 2019, the Reiwa report), https://www.fsa.go.jp/en/refer/councils/singie_kinyu/20191227.html
• Sumitomo Mitsui DS AM, "A new TOPIX: the underappreciated puzzle piece in Japan's equity market reform efforts," https://www.smd-am.co.uk/insights/a-new-topix-the-underappreciated-puzzle-piece-in-japan-s-equity-market-reform-efforts

Cross-references

• Theme 3.1 — From Four Segments to Three. This explains the market-segment reform that TOPIX reform works alongside.
• Theme 3.2 — The Tradable-Share Ratio. This explains why free float and shareholder mix matter for both segment eligibility and index eligibility.
• Theme 3.3 — The March 2025 Cliff. This explains the segment-reform cliff that readers can compare with the gradual TOPIX Phase 1 reduction.
• Theme 4.1 — PBR < 1 Is Not a Target. This explains the cost-of-capital reasoning behind the decision to remove lower-quality names from the passive index.
• Theme 1.1 — Why 8% Was the Number That Changed Japan. This explains the ROE gap that became worse when the passive regime treated TOPIX as an "everyone-in" index.