I suggest replaying disc 4 now that it's announced.
I thought disc 4 was one of the most amazing story accomplishments in a game. But it was also sad because that's when the game was about to end and a reminder that we weren't going to be getting III.
But after III announcement it's a preview for III and it's even more amazing.
Shenmue has always had fantasy. Shenhua talks about a prophecy that will be fulfilled between her and some man in the east. Ryo dreams of a foreign girl the very day he gets the Phoenix Mirror. He dreams of prophecy and destiny and they don't even meet in the first game, showing just how large in scope the journey he is getting into is. I'm pretty fine with the magic because it was always hinted, and the world of Shenmue is one with subject low fantasy anyways. Jianmin touches a tree and a rush of leaves fall. When Xiuying is practicing Bajiquan the ground shakes. Baji is known for its ground shaking style irl, but in Shenmue it almost seems hinted at as literal. Shenhua can recall the memories of ancestors, use Ki, and it's hinted she is reincarnated, we don't know.
There's even these scenes in I:
I've never had a big issue with the way the fantasy is presented, because it does so in a far more elegant manner than other games. In other games, magic is innate. In Shenmue, it's tied to myths and prophecy that is subdued. Ryo has prophecy dreams but they could easily just be taken as dreams, and he doesn't even remember them. I've always liked that. I've also always enjoyed how it manages to mix Chinese cosmology and religion into the story without going overboard, again, like other games with fantasy. I'd say Shenmue's low fantasy is probably one of the best story accomplishments in a game in how it portrays it with an actual sense of mystery and wonder.
Also, if you rewatch II's ending you'll notice the sword doesn't float by itself. That's Shenhua using her Ki to make it float.