This article analyses movements in Japanese stock returns in the recent period (1991-2005). Unlike previous literature, by modelling persistence in both the mean and volatility simultaneously, first, we find evidence of persistence in Japanese stock returns. Second, while not so for daily returns, changes in monthly returns are found to reflect those in economic fundamentals, such as the interest rate and the dividend-price ratio. This finding is consistent with the conventional belief that higher frequency returns tend to move more in response to non-economic fundamentals, and we confirm that the poor long-term performance of Japanese stocks can be explained by economic factors. The statistical models are thoroughly examined by diagnostic tests in the contexts of the in- and out-of-sample forecasting.