Exchange Group Inc.’s first large-scale reshuffle of the Topix Index goes into effect Friday, part of the biggest overhaul in the benchmark’s history that may shrink the number of constituents by more than one-third.

The weighting of stocks slated for removal in this initial review will be gradually reduced, potentially cutting about 700 names and leaving the index with less than 1,000 members. The revamp also expands index eligibility to market segments geared toward smaller and growth firms, as long as they meet criteria including liquidity. Annual reshuffles will start from October 2028.

Some investors expect this change to spur competition among companies to remain in the index, boosting Japan’s stock market over time. As the reform kicks off, here are three things to look out for: In the initial phase, stocks earmarked for removal will have their weighting cut to zero over eight quarters. But they can put a stop to it if they can meet the Topix inclusion criteria by the next reassessment, making October 2027 a key event for listed firms and investors tracking the gauge.

To remain in the index, companies must meet thresholds based on measures including annual traded-value turnover, a measure of how actively shares change hands, and the market capitalization of shares available to public investors.

As larger companies gain in market value with their outperformance, the hurdle is raised for smaller firms to remain above the cutoff point.

The Topix restructuring may help lift Japan’s stock market over the longer term by encouraging companies, particularly small and mid caps, to enhance corporate value and boost share trading liquidity to stay in the index.

The changes will help improve the liquidity and investability in the Topix, which has about ¥160 trillion ($1 trillion) of passive assets and ¥72 trillion in listed exchange-traded funds tracking the gauge, Jefferies analysts including Shrikant Kale wrote in a note.

Companies facing the risk of removal may take measures such as stepping up growth-oriented investments, lifting shareholder returns or restructuring to support their stock prices. Firms that are tightly held by their founders, families or strategic shareholders could increase their free float through stake sales, according to Jefferies. Unwinding of crossholdings could also help, while some listed units may face more pressure to reconsider their listing if their index weighting is cut and liquidity is further reduced, it said.

Annual reshuffles may also spur investors to trade ahead of expected additions and deletions. Stocks to be added and those listed for removal in the initial reshuffle have posted median year-to-date returns of 28% and -2.5%, respectively, compared to the Topix’s 17% gain.

The overhaul marks the second phase of the Topix reform since the Tokyo Stock Exchange reorganized its markets in 2022. The first phase, which ended in January 2025 under looser liquidity requirements, removed about 400 stocks, whose subsequent performance may offer clues on companies facing exclusion this time.

Signs of deteriorating corporate governance were seen after companies were removed from the Topix in the first phase, such as a decline in the proportion of outside directors, as well as lower valuations, according to a report from SMBC Nikko Securities Inc. Reduced monitoring by institutional investors after index exclusion was one possible reason, according to the report.