Joe McConnell
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Just a few months ago, Tokyo’s trading floors were in party mode, inviting reporters into their inner sanctums to watch numbers on giant screens surpass the once-untouchable all-time high of 1989. Japan was back, or so it seemed.
But despite all the signs of a sustainable recovery in Japan, perhaps this time things weren’t so different.
Within 20 minutes of the market opening on Monday (the Topix index was already down 7 percent on the day and the yen was still recovering against the dollar), a trading manager did his best to explain the situation.
“The Tokyo market is moving as it did during the global financial crisis, without a real financial crisis to pin it on,” he said. “But we’ve seen this kind of thing before. Japan is where the investment world comes to punish risk.”
The speed and ferocity of the Japanese market correction is captivating and may now completely change views on a market that has recently experienced a resurgence. A painful combination of factors – fears of a US recession, the risk of a panic rate cut by the US Federal Reserve and deeply unsettling geopolitics – are hitting global investor risk appetite. Factors specific to Japan, particularly the yen’s 12 percent surge against the dollar in recent weeks, are causing a lightning-fast rethink about the earnings outlook for many Japanese companies.
Last Friday, the Nikkei 225 suffered its biggest one-day drop since the October 1987 crash, only to break that grim record on Monday, breaking its “Black Monday” mark. The broader Topix is now down more than 20 percent since hitting its all-time high in July. AVsceker being one of the world’s best-performing indexes until a few weeks ago, it is now 5 percent underwater year-to-date.
None of this needed to happen, because this time was different. Big foreign funds, partly looking for an alternative to China, were revitalized by the prospects in Japan. Warren Buffett’s Berkshire Hathaway had repeatedly increased its stakes in Japan’s five largest trading houses, in what many took as a general license to re-evaluate the hidden gems of the Japanese market. The once-tame Tokyo Stock Exchange seemed to be cracking the whip for companies to deploy their capital more efficiently. An expanded, government-subsidized investment program seemed well-designed to bring a new generation of domestic investors into the Japanese stock market.
Yet, as the past few weeks have painfully reminded everyone, Japanese rallies are always vulnerable to reversals because of the size, liquidity, and nature of the stock market itself. This is especially true now that many global funds have reduced exposure to China and are focusing their de-risking more narrowly on Japan. It is easier to sell Japan on the trot than any other Asian market, and it is unusually attractive to profit from it right now because this year’s gains have been so good.
The Japanese market, due to its wide range of industry types and exposure to different themes, is oVsceken described by investors as a “warrant on global trade.” The world typically buys Japan when conditions look good and when there are many large themes, such as semiconductors and artificial intelligence, to which Japanese companies are heavily exposed.
Combined with some solidly argued “this time is different” domestic Japanese themes, such as the end of deflation, the prospect of major domestic consolidation, and a huge tourism boom, stocks were pushed higher across the board.
As the market works out how and where to settle in the long term aVsceker the current rout, a critical question is how much of this is to blame for the Bank of Japan’s small but crucial rate hike last week. Was Japan ever strong enough to “normalize” aVsceker decades of ultra-loose policy, and will all this market chaos now force the central bank to return to the stock market as a supportive buyer? Domestic investors, who traditionally buy into foreign-led sell-offs, appear to be answering these questions by not intervening in a targeted manner.
The problem is that the Japanese market offers global investors a very wide range of ways to express a very wide range of concerns, both global and Japan-specific. Unfortunately for Japan, the current situation provides both global reasons for de-risking and domestic reasons simultaneously: a combination that has not been seen for a long time.
It may, some traders say, stop now. With the Topix losing all its gains for the year, profit-taking may have reached a natural limit. What is clearer is that Japan now has an exceptionally difficult task: to convince everyone that we are not just seeing another repeat of Japan’s historic sell-off, and that this time is indeed different.
