Why Japan Was Hit Hardest in the Global Market Crash

Markets fell last week fears bounced On the health of the U.S. economy, the tech sector and more around the world. No market has carried more weight than Japan.

Japan’s major stock index suffered its steepest two- and three-day trading declines since the 1950s last Thursday, a decline analysts said could not be fully explained by the same factors affecting other countries.

Japan had a unique element that made its problems worse: Its weakened currency, which was inflating corporate profits and valuations, was beginning to appreciate at an alarming rate.

The turmoil threatens one of Japan’s most sustained stock rally in decades. Several reasons have been given for the strong performance of Japanese stocks since early last year. Warren E. Buffett’s Berkshire Hathaway Optimism expressed about Japan being seen as an alternative investment to China. Tokyo Stock Exchange accelerates pressure For companies to increase shareholder returns.

But as the yen strengthened last week, it erased most of the gains Japanese stocks have made this year. Investors were forced to reassess whether the much-vaunted renaissance in Japanese stocks was the result of a weaker yen rather than underlying structural changes.

“Why was Japan’s downturn so much worse than other markets? The yen is at the top of the pecking order,” said Stefan Angrick, senior economist at Moody’s Analytics Japan. “Japan’s rally ultimately had a lot to do with the yen, and the events of the last few days are a good reminder of that.”

The weak yen has played a major role in supporting stocks of major Japanese companies over the past few years, especially exporters who have seen their overseas earnings rise in value. Many of Japan’s signature global brands, Toyota Enginereported record profits. This attracted money from investors and pushed Japanese indices to record highs.

The main reason why the yen has been depreciating over the past few years is, big difference between interest rates In Japan and the United States. While U.S. rates have risen, Japanese rates have remained below or near zero, prompting investors to seek higher yields outside Japan.

That dynamic began to reverse last Wednesday. Bank of Japan unexpectedly raised its key interest rate for only the second time in almost two decades. This move, combined with cues from the U.S. Federal Reserve The expectation that interest rate cuts will occur in the near future caused the yen to gain value rapidly.

As of Friday morning, the yen, which was trading around 161 to the dollar a few weeks ago, had fallen below 150.

The breach of the 150 yen/dollar threshold, which investors see as a turning point, has increased panic among investors who fear companies will be forced to cut their profit forecasts.

The Topix index, which represents a broad swath of Japan’s economy, fell 6.1 percent on Friday, its worst two-day performance since the 2011 earthquake and tsunami.

Later dispose ofThe start of trading in Tokyo on Monday was seen as a test of whether confidence in Japanese companies can hold up even without the yen. Historically, Japanese investors have seized opportunities during foreign-led market crashes, keeping prices low.

The problem is that this time, buyers took a back seat. Japan’s trading day was marked by a selling frenzy: Another benchmark index, the Nikkei 225, posted its biggest single-day point drop ever. Some called it “Black Monday,” recalling the global stock market crash of October 1987.

“Despite all these reforms and stability and the Tokyo Stock Exchange pushing for better capital returns, you still haven’t seen any offers from Japanese investors,” said Jesper Koll, an executive at financial services firm Monex Group. “It’s become frightening.”

On Tuesday, Japanese stocks began to recover, with the Nikkei 225 index rallying 10.2% and some investors speculating that the market may have reached a settling point after factoring in a stronger yen.

A 43-year-old Japanese investor, a former manager of a Tokyo-area cram school who asked not to be identified, said he bought stocks on Monday despite feeling “scared and wanting to run away.” When prices rebounded, he pocketed the equivalent of about $2,700 and went to take his children to a play center.

The question no one can answer, of course, is whether the bubble of weak yen and high stock prices has completely burst.

On Wednesday, Japanese indices continued to rally, but the moves were relatively small. The Nikkei 225 closed up 1.2 points percent, while Topix gained 2.3 percent. Japanese indices have generally returned to their year-early levels.

The weakening yen could start pushing up stock prices in early 2023, when the Nikkei is hovering around 26,000, Nomura Research Institute said in a note on Wednesday. That could mean stocks could fall by as much as a third from where they are now if the entire yen-related rally reverses. That would be a painful adjustment for many companies and their investors.

Joy Yang, who leads Asian economics research at Point72, a hedge fund, said she is waiting to make judgments about Japan’s economy and stocks until markets calm down and several key indicators are released. For example, economic output figures due next week will show whether new inflation in Japan is helping to stimulate growth, she said.

“For now,” Ms. Yang said, “we are waiting for the markets to calm down and see how we proceed from there.”

Hisako Ueno contributed reporting.