A pedestrian looks at an electronic stock board outside a securities firm in Tokyo, Japan, Tuesday, Dec. 25, 2018.
Shoko Takayasu | Bloomberg | Getty Images
Japan’s stock markets have hit a six-month low, falling for two straight days after the Bank of Japan raised benchmark interest rates to their highest level since 2008.
The Nikkei 225 and the Topix fell more than 5% and headed for their worst sessions since March 2020, according to FactSet data.
That’s a very different picture from less than a month ago, when the Nikkei hit an all-time high close of 42,224.02 on July 11.
Speaking on CNBC’s “Squawk Box Asia,” Bruce Kirk, chief Japan equity strategist at Goldman Sachs, said the Japanese market’s rally had reached a “transitional phase.”
“Well, yes, it’s very painful. Yes, there’s a fundamental shift in the market, but it’s not unusual,” Kirk said. “We don’t think so [rally] The story is broken, but the narrative is certainly evolving and that’s likely to be accompanied by continued volatility and this fairly aggressive sector switching that we’re seeing.”
Kirk explained that the rally over the past two years has been fueled by three factors, namely, the weakness of the yen to the benefit of exporters and blue chip banks, expectations of monetary policy normalization and corporate governance reform.
Japan’s markets were Asia’s best performers last year and up to June this year.
“The rules of the game have 1722576589 it’s certainly changed, particularly around interest rates and currency,” Kirk said, adding that investors are now reassessing the sector’s position in the market.
There is a silver lining to this repositioning.
Kirk told CNBC that there is investor interest for the first time in about three years in Japan’s small- and mid-caps due to various factors, including their higher exposure to domestic demand and reduced vulnerability to currency fluctuations.
“I think people are now looking for areas that focus more on domestic demand, and that’s bringing back interest in Japan’s small businesses. [and] in the middle games”.
All in the same boat
Kirk explained two possible reasons behind the current re-evaluation following the BOJ’s rate hike.
The first is that “investors don’t think the Japanese economy can take 25 or 50 [basis points] policy rate [hike]and that they don’t think Japanese companies can make money with the yen below 150 [against the dollar].”
The yen is currently trading at 149.4 against the dollar, having fallen below the 150 level against the dollar following the BOJ’s decision on Wednesday.
The other reason for the sell-off could be due to a very crowded market, where investors have sunk money into a narrow group of companies, all of which have had momentum for a long time.
“Everyone is on the same side of the boat when some of the fundamentals change. This is [when] you see these very aggressive twists and turns.”
So, how long and steep will this withdrawal be?
Kirk noted that over the past two years, the market has seen about seven “momentum reversals,” falling about 7% to 8% from peak to trough, and the market typically took about two months to recover from them.
He said the current price action was very similar to what the market saw in December 2022 when the BOJ modified its yield curve control policy.
The central bank after all dropped its YCC policy in March.
