Japan's Nikkei 225 experiences record volatility

Japan's financial markets experienced dramatic swings this week. This volatility was triggered by unexpected actions from the Bank of Japan, including an earlier-than-expected interest rate hike, which led to a sharp appreciation of the yen and a global sell-off of yen-denominated assets.

Japan's stock markets experienced their largest drop since 1987 on August 5, sending shockwaves through global markets, Caliber.Az reports citing the foreign media.

However, they staged a dramatic recovery the next day, marking their biggest one-day gain since 2008.

The turbulence in Japan reflects broader instability affecting Asia, the United States, and beyond. This volatility is partly due to unexpected US jobs data from July, which revealed a rise in unemployment and raised concerns about a potential slowdown in the US economy and global growth.

Additionally, sharp fluctuations in the Japanese yen and recent policy moves by the Bank of Japan have further exacerbated market jitters.

"Signs of weakness in the US economy have triggered these events, with technical factors in Japanese markets adding to the volatility," said Kyle Rodda, a senior market analyst at Capital.com.

A confluence of factors led to a dramatic decline in Japanese markets this past week, with the Nikkei 225 experiencing its largest one-day drop since 1987 on August 5. This turmoil was partly driven by the recent rapid appreciation of the Japanese yen.

For years, the yen had weakened against the dollar, losing over 40 per cent of its value. However, recent weeks saw a sharp turnaround, with the yen reaching its highest level against the dollar since March. This shift followed a rare decision by the Bank of Japan to raise interest rates, which sparked concerns about declining earnings for Japan’s export-oriented companies, contributing to the stock market plunge.

Additionally, global technology stocks suffered due to US plans to impose new restrictions on semiconductor exports to China, impacting markets with major chipmakers such as Japan, South Korea, and Taiwan.

The situation was further compounded by a disappointing US jobs report on Friday, which raised uncertainties about the US economy and the Federal Reserve’s future actions. The Fed had recently decided to keep interest rates unchanged, adding to the market volatility.

Japan's prolonged battle with deflation had kept interest rates negative, making it attractive for investors to borrow yen cheaply and invest in higher-yielding assets abroad, such as US Treasury bonds or tech stocks. This "carry trade" strategy had been popular among investors.

However, with the Bank of Japan raising interest rates for the first time since 2007, including a further increase to approximately 0.25 per cent on July 31, the yen surged against the dollar, intensifying market instability.

The recent surprise rate hike by the Bank of Japan, which came earlier than anticipated, has led to a swift appreciation of the yen, according to Rina Oshimo, a senior strategist at Okasan Securities Co. in Tokyo. Bank of Japan Governor Kazuo Ueda hinted that further rate increases could follow, prompting a rush of investors to sell off yen-denominated assets, resulting in a global market sell-off of riskier investments.

Following a 12 per cent drop in the Nikkei 225 on August 5, the index rebounded sharply, posting its largest single-day gain since October 2008 with a 10.23 per cent rise on August 6.

Japanese economists view the recent market volatility as a short-term issue rather than indicative of fundamental weaknesses in Japan’s economy. Takahide Kiuchi, executive economist at the Nomura Research Institute, noted that while the yen’s rapid appreciation and falling stock prices pose challenges, they are unlikely to have significant long-term effects on the economy.

Market reactions were partly due to overreactions by investors, according to Hirokazu Kabeya of Daiwa Securities. He believes that Japanese equities remain promising from a long-term perspective. Meanwhile, Takehiko Masuzawa, head of equity trading at Phillip Securities Japan, expects Japan's low-interest-rate policy to persist despite recent rate hikes, and anticipates that the market will eventually stabilize.