A plan by the government to impose stricter rules on foreign investment in local equities will be "detrimental" to the market, impede the ability to raise funds and undermine seven years of market reforms, according to Goldman Sachs Group Inc.

The Finance Ministry last week proposed a measure that would require foreign investors to report in advance when they plan to buy more than 1 percent of shares in companies related to national security, compared with the current threshold of 10 percent. The bill — which has been approved by the ruling Liberal Democratic Party — must now be greenlighted by the Cabinet and then by both houses of the Diet before becoming law. The changes are expected to be implemented in the fiscal year starting in April, Goldman said.

"The implementation of the new regulation as currently proposed could have a substantial negative impact on the Japanese stock market," Goldman strategists including Kathy Matsui, vice chair of Goldman Sachs Japan and a renowned voice in the nation's markets, wrote in an Oct. 16 note. "There is a risk that the new regulations could deter foreign investor participation, causing a decline in market liquidity."