The China Shock Hits the Rest of Asia
The global sell-off contagion triggered by a market meltdown in China's domestic exchanges hit Japanese stocks hard in early trading on Feb. 28, with the benchmark Nikkei 225 index registering its biggest declines in three years.
In the morning trading session in Tokyo, the Nikkei 225 index of leading companies had fallen 644.85, or 3.6%, to 17,475.07. At one point the index plunged more than 700 points, surpassing the market close of trading declines following the September 11, 2001 terrorist attacks.
Share prices in Hong Kong and Seoul also fell more than 3% in early trading, and Asian currencies such as the Indonesian rupiah and the Australian and New Zealand dollars traded at multimonth lows. In China, stocks trading in Shanghai and Shenzhen, which plummeted 9.2% on Feb. 27 and triggered a selling frenzy on Wall Street, were trading slightly up at midday (see BusinessWeek.com, 2/27/07, "China Slump Fuels Wall St. Meltdown").
Improving Exchange Rate
Back in Tokyo, the broader Topix index, which includes all First Section stocks, on the Tokyo Stock Exchange closed the morning down 70.36 points, or 3.88%, to 1,740.97. If trading ends the day at the same level, that would constitute the biggest one-day fall since May, 2004.
The morning sell-off in Tokyo was enough to wipe out recent market gains made after the Bank of Japan's decision to increase interest rates to 0.5% on Feb. 21. The selling was motivated by more than just the global investor reaction in the U.S. and Europe to China's slump a day earlier: Another factor was a rapid overnight appreciation of the yen-dollar exchange rate.
Having fallen to over 121 yen to the dollar following the BOJ's rate rise, the yen reached 117.94 at 4:15 p.m. EST, signifying its biggest gain since July, 2005. Analysts cited as factors the Dow's 3.3% dip, weak U.S. durable-goods orders, and comments from former Federal Reserve Chairman Alan Greenspan suggesting a possible slowdown for the U.S. economy.
Despite since weakening to around 118.14 yen to the dollar, the overnight appreciation hurt exporters that benefit from a weak yen (see BusinessWeek.com, 2/1/07, "Who's Cashing in on the Weak Yen"). Among major exporters, Toyota (TM) fell 4.1%, to $68 while Canon (CAJ) dipped 3.3% to $54. Sony (SNE) fell 5.5% to $52.
Tough All Over
Currency volatility also prompted fears that the yen carry trade—investors borrowing yen in Japan and investing in higher yielding assets overseas—could be unwinding. While that doesn't yet appear to the case—Japan's interest rates remain 4.75% lower than those in the U.S. or Britain, for example—the fear is that a sudden strengthening of the yen hurts those that have borrowed in yen.
Japanese individuals, meanwhile, who have been investing savings overseas in search of higher yields are also sensitive to a rapidly strengthening yen. Kenji Yumoto, chief economist at Japan Research Institute in Tokyo, points out that Japanese retail investors alone hold around $210 billion in mutual funds denominated in other currencies.
If all that wasn't bad enough, worse-than-expected economic numbers weighed on Tokyo investors: The Ministry of Economy, Trade & Industry reported that production numbers for January fell by a seasonably adjusted 1.5%. That was the biggest fall in three years.
A Longer View
Still, not everyone was gloomy. Shoichi Nakagawa, policy chief of the ruling Liberal Democratic Party, told local media that the share price declines in Tokyo reflected sell-offs in Chinese and U.S. markets rather than a weakening of the Japanese economy.
Seiichi Suzuki, a market analyst at Tokai Tokyo Securities in Tokyo, adds that the morning declines need to be put in perspective. "When the stock prices go down, people tend to start talking about negative things which had been hidden in their desk drawers," he says. "I don't think the fundamentals flip-flop that easily." Suzuki adds that the Topic index ended morning trading at 1,740 yen: "It was 1,738 yen on Feb. 1—for the month, it's still up."