The Nikkei average inched up 0.3 percent in thin trade on Monday as KDDI Corp extended gains on profit prospects and auto stocks such as Honda Motor advanced on a softer yen.
Japan Airlines Corp jumped 4.7 percent to 265 yen after the struggling airline said on Friday it would offer an additional early retirement program as part of its restructuring drive. The air transport index rose 2.1 percent, making it the best-performing sector.
But bank, securities and other financial stocks were down, curbing gains in the broader TOPIX index as investors cautious ahead of some U.S. key economic data sold these stocks.
Trade was slow with 1.47 billion shares changing hands on the Tokyo exchange's first section, the lowest volume since December 25. Advancing stocks beat decliners by 924 to 674.
Valuations still look cheap but the market has not completely recovered with a risk of another sell-off. It's not going to be a ride straight up, said Junichi Misawa, senior fund manager at STB Asset Management.
He said investors were reluctant to open new positions ahead of a slew of U.S. key indicators including housing data and preliminary figures on second-quarter gross domestic product.
Attention will be focused on economic data and how the impact of the subprime problems will be reflected on the numbers, he added.
The Nikkei inched up 52.42 points, or 0.32 percent, at 16,301.39. The broader TOPIX index eked out a 0.12 percent gain to 1,587.76.
On Monday, Japanese Prime Minister Shinzo Abe picked veteran lawmakers for key posts in a new cabinet line-up to be unveiled, media said, to try to revive faltering support after a massive election defeat.
Tsuyoshi Segawa, equity strategist at Shinko Securities, said the key factor for the Japanese stock market right now is not domestic politics but the U.S. market.
The new cabinet does not look too bad, he said. But what moves the market is U.S. stocks ... and it looks like they could be losing steam to end the recent rebound phase.
AUTO UP, BUT BANKS DOWN
Auto shares gained ground after the dollar climbed as high as 116.76 yen, pulling further away from a 14-month low of 111.60 yen just over a week ago.
Honda Motor Co rose 2.4 percent to 3,790 yen while Toyota Motor Corp added 0.6 percent to 6,700 yen.
In the banking sector, Mitsubishi UFJ Financial Group Inc ended flat at 1.13 million yen after a morning announcement that it had bought a A$208 million ($173 million) stake in Australia's Challenger Financial Services Group.
Nomura Holdings Inc. dropped 1.2 percent to 2,040 yen.
A few bright spots included KDDI Corp, Japan's second-biggest phone company, which climbed 2.4 percent to 888,000 yen, rising for the fourth straight session, after Macquarie upgraded the issue last week to outperform' from neutral and lifted its target price to 1 million yen from 870,000 yen, citing profit expectations.
Telecoms stocks also drew buyers who were looking for domestic stocks resilient to the currency moves.