Nikkei225 – a huge tumble in Japan…

Number of victims, economic damage, nuclear risks and production stops – all this still remains fairly vague, yet definitely more serious than reported initially on Friday. Even though most see an economic damage as a temporary one, Japanese stocks are losing ground with the Nikkei225 down by more than 6%.

The futures for this index are below 9500 pts. even though as recently as February it flirted with 11k pts. A level of 9000 pts. is a solid support for the index and can provide an opportunity for a rebound.

DAX30 – …and a moderate one elsewhere

The major risks for foreign markets right now is that Japan suppliers could not deliver their components in time. Even though this risk is not serious enough to change the direction of the markets by itself, it reinforces a corrective movement already present elsewhere. European markets, including the German one, are lower today, with the German DAX30 futures opening with a negative gap. However, a slide is moderate, suggesting that in the course of the whole week, other factors will come into play, including oil prices, Middle East and the Fed. German DAX30 futures are less than 1% away from the support at 6840 pts. which may provide a chance for a rebound in Europe.

USDJPY – lessons from Kobe’95

Some investors were left puzzled observing the Japanese yen gaining on the news of the catastrophe, especially with fresh memories of the impact of the earthquake on the Kiwi. However, there is a good reason for it: Japanese private sectors seats on a huge pile of savings and usually moves them (or at least a portion of them) back home when things aren’t going well on global markets. This time, this movement might be additionally strengthened by a shift in priorities for the Japanese companies, recovering their domestic operations (at the expense of foreign investments).

That’s what happened in 1995 after the Kobe earthquake. Actually, the situation on the USDJPY was pretty similar in January 1995 to what it is now – the pair had been consolidating for a couple of months after a few years of declines. Instead of a trend reversal market saw astonishing rally of the yen, sending USDJPY from around 100 to the historical low of 79,75 in April’95.

So shall we see a similar drop this time (only to the lower levels)? A retest of historical lows seems very likely, especially keeping in mind the many wasted occasions to reverse the trend. However, there are many reasons to believe, this time any drop will be temporary and may render a later reversal even stronger. First, the monetary authorities already expanded the quantitative package (to 40 trln yen) and will be ready to intervene, should the pair drop below 80,00. Secondly, the government expressed a will to expand the budget despite fiscal difficulties. Thirdly, any normalization is interest rates in Japan will be postponed further, while rates in the US are bound to rise, even though the Fed doesn’t like to admit it now. Finally but not least importantly, investors might remember what happened in the 90-ties. The drop below 80,00 was an evident overreaction and caused an additional trouble for the Japanese economy, sending the USDJPY to as high as 146,70 in August of 1998.    

Events to watch – Fed, inflation data and Spanish bond tenders

Today, markets are likely to stay focused on Japan, but over the course of the whole weeks other factors are coming into play. The Fed (tomorrow) and the US inflation (Wednesday and Thursday) are key for the dollar – the Fed ought to signal some shift towards policy normalization (given the data) but may take advantage of uncertainties (oil and now the earthquake) not to do so. Euro is awaiting the Spanish debt tenders on Thursday and any messages from the politicians working at the summit. Oil prices, Libya and the Middle East got overshadowed a bit, but actually that shift in attention may prolong those tensions and reinforce Kaddafi.   

Przemysław Kwiecień PhD, Chief Economist

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