TOKYO (Bloomberg) - Japanese companies are returning to profit just three months after reporting record losses in the nation's deepest post-war recession, luring overseas investors at the fastest pace in two years.

Companies from Honda Motor Co., the nation's No.2 automaker, to Hitachi Chemical Co., the top maker of carbon anodes for lithium ion batteries, swung to profit following 8.6 trillion yen ($1.3 trillion) of losses in the previous quarter. Net income for the biggest companies on the Tokyo Stock Exchange reporting first-quarter results totaled 1.09 trillion yen, according to data compiled by Bloomberg. Analysts are boosting profit forecasts for the first time since September 2007, according to Nomura Holdings Inc.

"We expect a lot of analyst upgrades coming through after the earnings results," said Diane Lin, who helps oversee about $1 billion at Sydney-based hedge fund Pengana Capital. "This could spur a bit of interest back to the market."

Reduced spending on payrolls and capital investments, combined with the fastest expansion in factory production in five decades, led to the recovery. The economy expanded at a 3.7 percent annualised rate last quarter, the government said yesterday, after a record 14.2 percent contraction in the first three months of 2009.

The Nikkei 225 Stock Average rallied 46 percent from a 26-year low on March 10. It fell 3.1 percent yesterday to 10,268.61.

Factory output rose 8.3 percent last quarter, the fastest since 1953 and a rebound from the record 22 percent plunge in the January-March period.

Nomura's revision index, a measure of whether analysts are lifting or reducing profit estimates, rose to a 10-year high of 37 percent in July on an "unprecedented" number of positive earnings surprises, according to an August 7 report. On July 31, Nomura boosted its pretax profit estimate for the nation's largest companies by 3.3 percent from its June forecast.

The recovery in profits prompted international fund managers to snap up 445.2 billion yen of Japanese shares in the week to July 31, according to the exchange, the most since July 2007. The next week's purchases totaled 286 billion yen.

Still, a net nine percent of investors outside the country remain "underweight" the market, according to a July fund manager survey from Merrill Lynch & Co., down from the more than 30 percent at the start of the year.

Of the companies that changed first-half forecasts, 63 percent raised their estimates, according to a Shinko Securities Co. report dated August 14, and some investors are anticipating an increase in the number of "buy" calls on Japanese equities as more upgrades emerge.

Analysts "buy" ratings hovered around 29 percent of all recommendations each month this year, compared with 43 percent in January 2008, according to Bloomberg data. The number of "sells" fell to 8.85 percent last month from close to a three- year high of 10.06 percent in January.

The Topix index's 1,693 stocks trade at an average 1.2 times book value, the cheapest among Asian benchmark gauges. The Standard & Poor's 500 Index is valued at 2.1 times book, while the Dow Jones Stoxx 600 Index in Europe is at 1.5 times.

Pengana's stock purchases through the end of July have given Japan the most "long" positions of any market in the firm's Asian long-short hedge fund, Ms Lin said. Japanese equities are cheaper than other Asian markets that have rallied more this year, she said.

The fund has bought Toyota Motor Corp., the world's biggest automaker, Ibiden Co., which supplies chip packages to Intel Corp., and Elpida Memory Inc., Japan's largest maker of computer memory, she said.

Efforts by companies to reduce costs may slow an economic recovery, as job losses and salary reductions damp consumer demand. Monthly wages slumped 7.1 percent in June from a year earlier, a government survey released August 3 showed. The jobless rate rose to a six-year high of 5.4 percent the same month.

"The next step of a recovery in final demand is going to depend on factors outside of Japan's control," said Hiroshi Motoki, managing director at the Japanese unit of AIG Global Investment Corp., which has $688 billion in assets.

Some of Japan's biggest companies are raising forecasts. Toyota, based in Toyota City, narrowed its full-year loss estimate to 450 billion yen from 550 billion yen on August 4. Tokyo-based Honda lifted its full-year profit forecast on July 29 as it slashed expenses.

Hitachi Chemical, also based in Tokyo, more than tripled its profit forecast and boosted its sales estimate on July 28. The maker of materials for liquid-crystal displays has reported improving monthly sales figures since March, powered by demand for semiconductor and LCD components. Hitachi Chemical shares have more than doubled this year.