News that Abe is set to resign caused Tokyo stocks to slide on Friday, wiping out about $47 billion of market value, while pushing the yen higher.

Foreigners, who had made their largest purchases in almost a year two weeks ago betting on Japan's recovery from the coronavirus pandemic, had been selling this week as concerns grew about Abe's health.

Japan's longest serving premier and architect of its Abenomics economic strategy is expected to announce his resignation on Friday, sources told Reuters. Uncertainty about who will succeed him and how policy will change could hurt foreign investment flows, analysts said.

"It's usually a thing with markets, better the devil you know," said Rob Carnell, Asia-Pacific head of research at ING Bank in Singapore.

"Without knowing who's going to step in and whether they're actually going to breathe a bit of new life into this or not, I guess markets are going to be a little unsettled by the unknown."

This week the Nikkei index <.N225> had finally managed to rally to levels last seen in the early 1990s, helped in part by a weakening currency. Now it looks set to lag other major bourses in the coming year, said Takatoshi Itoshima, investment strategist at Pictet Asset Management in Tokyo.

Graphic - Japan Long-Term Stock Performance:

As investors prepare to shift their portfolios to bet on the next phase of economic recovery from the coronavirus pandemic, Japan's odds of getting those flows are now lower.

Last week, as Abe visited the hospital twice and stirred concerns about his health, foreign investors sold 170.1 billion yen ($1.6 bln) in Japanese stocks, reversing some of the 370.8 billion yen they had bought the previous week.

Graphic - Foreign investment in Japanese equities:

Abe's health scare comes at a time when factors supporting a rise in Japanese share prices were starting to align.

Japanese shares are trading at 18 times projected earnings for the next 12 months, which is cheaper than the forward P/E ratio of 22.2 in the United States. Japan's most recent earnings season was largely disappointing, but analyst downgrades of earnings are falling in a sign that the worst has passed.

Graphic - World stock market valuations:

Other analysts caution against being overly pessimistic on Japanese stocks, and keeping faith in the ruling conservative Liberal Democratic Party's (LDP) willingness to sustain the broad Abenomics policy platform of big fiscal spending and aggressive monetary easing.

"There will be a bit of short term market nervousness though but I think that will soon pass," said Shane Oliver, head of investment strategy at AMP Capital Investors in Sydney.

"I don't see a big change on the economic policy front. There is no real alternative to Abenomics."

By Stanley White