Investors awoke on the morning of Monday 5th August to find that the Japanese stock market had crashed 12.4% overnight. A multitude of garish headlines and clumsy explanations instantly followed, most of which were incorrect. We will look at the detail in a moment, but the first issue to address is one which persists, and was certainly not helped by these events…
The continuing frustration of investors with lack of growth.
As of Monday 5th August, the FTSE World Index, excluding the US, had gone precisely nowhere for three years. Zilch. (For those who like precision it was down 2.1%).
The same index of world stock markets including the US was up 13% over the same period.* That’s not a huge gain, but it’s better than nothing. Importantly, to achieve that it would have required that 62% of your portfolio was invested into the US…
…Would such an exposure to the US have been sensible? No. Because you would have been ignoring the unambiguous guiding hand of history informing you that the risks were substantial. In broad terms we can define this as cumulative falls in the range of 50-75% over a number of years.
Those risks are very real, and falls of that size are damming for those at certain points in their life cycle, when they don’t get the chance to go around the block again and rebuild their wealth.
Yet equally real is the frustration of many investors, of all types – DIY investors, advised clients, wealth managers and fund managers.
Frustration with a lack of growth for an extended period is a mental challenge. But it is a mental challenge on an altogether different scale addressing substantial and sustained losses across much of your portfolio.
Last Monday reminded everyone, lest we had forgotten, that financial markets remain fragile and vulnerable to sharp falls, often seeming to come out of clear blue skies.
Navigating this environment takes experience. For our part, that experience is combined with the certain knowledge that there are clear opportunities now if you take the long view, as we must when investing. Better still, if (when?) those very sharp falls emanating from the US are upon us, the cheap buying opportunities will multiply.
In fact we go even further than that, as you have heard us say before – ahead lie possibly the best investment opportunities of your life – so we mustn’t do something daft between now and then, and tread carefully in the interim.
Let’s get back to last week and Japan…
The Irony Of Japan Crashing
The irony in all of this is that Japan is one of the most stable places to invest in the world, perhaps the most conservative choice amongst major stock markets. Valuations are inexpensive and it is politically stable (ironically highlighted by their Prime Minister resigning yesterday, and Japanese financial markets being unmoved).
So why the crash? It was reasonably well understood that during the course of 2024 the main Japanese stock market index (Nikkei 225) had attracted a significant number of speculators. For example, in June it was reported by Bloomberg that Japan’s army of retail investors alone had borrowed $30 billion for just this purpose.
Once losses began to mount (and they mount quickly when you have borrowed most of your investment stake) panic ensued. These speculators were quickly cleared out, and since that day, even during that day, less excitable investors were picking up bargains in Japan.
Of course it wasn’t a CRASH like 1929. Rather it is what we call a “flash crash”. There is no strict definition, but it is essentially a fast and deep fall in financial markets as speculators are forced to sell, and then prices quickly begin to rebound. Similar falls on another occasion might be caused by a physical or climate event (e.g. tsunami) or geopolitical risk (e.g. war).
Muddled Media
The great bulk of the media seemed to struggle to understand what was happening in Japan.
On Tuesday 6th August the FT headline was “Fears over US recession drive sell-off”. With all due respect, that is tosh.
There is sufficient data to justify the US Federal Reserve cutting rates, but not enough to trigger a recession panic, and definitely not one that would have any substantive relevance for Japan.
You have also heard much about “the carry trade”. This means investors borrow very cheaply in Japanese yen, and then invest that money into an investment in a different currency e.g. European corporate bonds, non-Japanese government bonds, non-Japanese stock markets. Some might have borrowed in Japanese yen, and invested into Japan, but that is a different matter, and not a carry trade.
The Great Unravelling
It can get boring, but we repeat again that financial markets are extremely vulnerable due to a massively over-valued US stock market and a mountain of global debt. Early examples of both are now clear – think of them as early warnings. Here are three.
The Japan “flash crash” was because interest rates were too low in Japan, which encouraged speculators to borrow considerable sums to invest, in an environment of extreme complacency about risks. This crash was despite the Japanese stock market being one of the most attractive global opportunities – good value and politically stable.
Bonds are another kind of debt, issued by governments. Such bonds issued by the US and UK are arguably the safest in the world. Yet they both fell by over 50% from 2020 until late 2023.**
The US stock market bubble began to wobble in the last month. It might have a little more to inflate in 2024, but great care is needed. The major technology stocks have singlehandedly driven the main US stock market skyward (S&P 500), buoyed by a belief in Artificial Intelligence (AI) and how it will change the world. It might do so in many years time. But for now it is more fantasy than reality, and this fantasy is keeping the US market inflated – for now.
These examples, and more besides, are clues as to what happens when easy money is withdrawn – complacency and dodgy assumptions are found out. Yesterday’s winners become tomorrow’s losers. And today, the transitional period, gives a little time for investors to figure the serious implications.
The old order, built over 40 years, is unravelling. It will not unravel conveniently in one day, nor necessarily from an expected direction, and it is frustrating. We must simply allow this period to unfold, accepting that its precise path is unknowable.
Nonetheless, the opportunities are considerable.
The Greatest Opportunities In The World Ever?
Of course there is a tad of hype in that headline, even with the question mark. But when most headlines proclaim doom and disaster, a little positivity is merited.
As well as those opportunities which will arise when the US bubble bursts, good value abounds now, some of which were set out in the last TopFunds Guide:
- Decent opportunities in the UK, for growth and income investors
- Asian has clear attractions beyond China
- Japan remains cheap
- China is stirring, though it is early days
- Opportunities in commodities should persist for years to come
- European small companies, with help from lower interest rates
- Value-style funds around the world, again for years to come…
- …including equity income style funds
These can be embraced now in an appropriately measured way, providing that you are also content to step to one side if the need arises.
Last but not least, you can tell that, notwithstanding the latter opportunities, we are cautious, and our growth portfolios reflect this. If your judgment is that you would like to take on more risk immediately, please do contact your usual adviser.
* FTSE All World ex US vs FTSE All World, both in GBP 06/08/21-05/08/24
** iShares Treasury Bond 20+yr ETF & iShares Index-Linked Gilts ETF
P.S if you have not yet switched over to our discretionary service, the opportunities set out above are best exploited within our discretionary service. In addition, outside that service your investments might be unnecessarily exposed if events unfold rapidly. Please email to discuss.
