The ongoing sequence of tragedies in Japan has understandably shaken investor sentiment heavily. In two days last week the Nikkei lost 17 per cent and markets around the world fell accordingly, with the FTSE 100 dropping over six per cent in six sessions before showing some composure at the tail end of the week.
The question though as to whether such a rapid fall as this was rational is not so easily answered.
Looking at the pure economic ties between Japan and the UK for instance, it’s hard to justify why UK stocks should fall so heavily. According to Jefferies Fixed Income, the UK has an exposure to Japan equivalent to one per cent of GDP, made up of exporting goods and services, in addition to income derived from investments.
On another level the UK, as of the end of 2008, had £398bn of outstanding assets in Japan. How much of that has been endangered by events that have affected at most eight per cent of Japan’s economic output?
You might ask if the UK will be hit by the breakdown of the Japanese export leviathan that has been interrupted more by ensuing power cuts than the earthquake, tsunami and ongoing nuclear crisis? Maybe – but you have to remember times have changed. In 1990 the UK was the number five global destination for Japanese goods. By 2009 it wasn’t in the top ten, according to an HSBC report looking at IMF trade statistics.
Some economists have argued that in the medium to longer term the rebuilding of Japan’s north east will be a source of GDP positivity and could help draw the country out of its long term deflationary malaise. Won’t British companies figure in the reconstruction in some ways?
So why did global markets fall so aggressively? The pragmatic answer is that nerves were already frayed by events in the Middle East and North Africa, ongoing unanswered questions over the sustainability of European and US debt levels and perhaps by the fact that the equity markets had in some cases doubled off their March 2009 lows. Japan may just have been the last straw.
In fact, I’ve been surprised by the number of commentators who, while acknowledging the enormity of the human tragedy and devastating destruction of economic capacity in Japan, have welcomed the opportunity to take a look at the valuation of equities following the rout in share prices. Some of the most cautious investors have been waiting for an entry point for months now and are picking up stocks across the board.
As HSBC’s Stephen King puts it: “Knee-jerk economic and financial reactions to shocks and disaster often fall wide of the mark.”
Steve Sedgwick co-anchors Squawk Box Europe weekday mornings on CNBC