* Nikkei snaps 4-day falling streak, edges from 16-mth lows
* Rebound technical after RSI, slow stochastic oversold
* No policy moves on yen, economy worry caps gains
* Foreign and retail investors net sellers last week-data
By Elaine Lies
TOKYO, Aug 26 (Reuters) - Japan's Nikkei average clawed its way up from a 16-month low on Thursday, snapping a four-day losing streak as short-covering emerged and the market gained on a slight technical rebound.
Buying of futures by long-term domestic investors after some apparent selling by speculators the day before also helped lift the Nikkei to its first positive close in a week.
But gains were capped by increasing uncertainty about when the government might hammer out measures to rein in the strong yen that threatens a fragile economic recovery, after news that Prime Minister Naoto Kan faces a challenge for his party's leadership and hence the premiership.
Market players said growing signs of global economic malaise, including disappointing U.S. housing sales data that came out on Wednesday and sent Wall Street sharply lower before U.S. indexes managed to eke out gains, were also weighing on the market.
"There are increasing signs of a slowing global economy, and on top of that you have Japan's situation where it really isn't providing policy to deal with its economic issues," said Kenichi Hirano, operating officer at Tachibana Securities.
"Otherwise, why is the Nikkei performing so poorly? As corporate earnings showed, the economy itself is not doing badly enough to warrant the current stock weakness, but the lack of clarity on the yen's strength is not good."
The rising yen, weak Nikkei and falling JGB yields suggest investors are losing faith that officials will take aggressive measures to fight deflation and revive the economy.
The dollar edged up 0.3 percent to 84.75 yen as investors grew reluctant to push the yen higher after news that Bank of Japan governor Masaaki Shirakawa will attend the Kansas City Federal Reserve conference in Jackson Hole, Wyoming, this week
The benchmark Nikkei rose 0.7 percent or 61.09 points to 8,906.48, a day after closing at a 16-month low. The broader Topix rose 0.6 percent to 811.79.
But market players said the gains were mainly technical after the Nikkei fell into oversold territory on the charts.
Its relative strength index (RSI) stood at 35, with 30 and below considered oversold, while its slow stochastic -- a measure of how oversold the market is -- was deep in oversold territory.
Market players have also said that the longer the Nikkei stays below 9,000, which became a key support level several times over the past year, the greater the chances that strong resistance will develop at that point.
POLITICAL WOES
Japanese ruling party powerbroker Ichiro Ozawa said on Thursday he would challenge Kan for the leadership in a vote on Sept. 14, a battle analysts say could create a policy vacuum and push the surging yen higher.
"The fact that Ozawa has said he'll run ... means that whatever Kan might say about policy, the markets won't listen," said Norihiro Fujito, general manager at the investment research and information division of Mitsubishi UFJ Morgan Stanley Securities.
"This also means that no new policy will be able to be enacted until after Sept. 14, which will also make it hard for stocks to rise."
Foreign investors, long a key driver of the Nikkei, remain net sellers, limiting the longer-term outlook.
Ministry of Finance data showed that foreign investors sold a net 39.1 billion yen ($462 million) of Japanese stocks last week. Data from the Tokyo Stock Exchange showed that retail investors also turned net sellers, to the tune of 36.9 billion yen.
Market players said that long-term domestic investors appear to have bought Nikkei futures on both Wednesday and Thursday, providing an additional boost to the cash market.
Shares of exporters gained, buoyed by short-covering.
Digital camera maker Canon Inc rose 1.3 percent to 3,470 yen and electronics parts maker Kyocera Corp added 2 percent to 7,240 yen. Panasonic Corp gained 1.7 percent to 1,061 yen.
Suzuki Motor Corp rose 2.9 percent to 1,638 yen after its Indian motorcycle unit said a day earlier it would more than double its annual motorcycle production capacity to 540,000 units by the end of 2012, from 250,000 units now.
After the bell, Asahi Breweries Ltd said it would buy Australian beverages maker P&N Beverages for A$364 million ($322 million). Asahi shares ended up 0.5 percent at 1,592 yen ahead of the announcement.
Trade was thin, with some 1.4 billion shares changing hands on the Tokyo exchange's first section. Advancing shares outnumbered declining ones by more than 2 to 1. (Reporting by Elaine Lies; Editing by Chris Gallagher)