TOKYO -- Despite Japanese stocks' steep fall earlier this month, market insiders remain generally optimistic. A common refrain among professionals is that investments should be assessed calmly, not on the basis of short-term swings.
There is no denying it was quite a dive. The Nikkei Stock Average on Feb. 4 plunged 610 points, or 4.2%, to 14,008. Investor concerns over worse-than-expected Chinese economic indicators, as well as tumbling emerging market currencies, fueled heavy selling. The turnover on the Tokyo Stock Exchange's first section surged to 3.6 trillion yen ($34.8 billion), a two-month high.
As the index plummeted, a trader at a major brokerage frantically called clients, trying to determine who was bailing out. Last year, U.S. and European speculators took the blame whenever the Nikkei average dropped sharply. Global macro funds and CTA, or commodity trading adviser, funds would repeatedly sell stock futures to take profits, often triggering widespread selling in cash markets.
This time was different. Those hedge funds had been gradually reducing their positions since late last year. Foreign investors were net sellers of Japanese stocks in January, liquidating 1.16 trillion yen more shares than they bought.
In other words, market conditions had been worsening before the Feb. 4 sell-off. A close examination shows individual investors were behind that day's decline.
Cascade of selling
At Matsui Securities, a company representative said the number of margin calls reached "the highest level since the BNP Paribas shock in August 2007," when the French bank froze funds due to exposure to the U.S. subprime mortgage mess. Many Matsui customers who had purchased shares on margin were forced to sell their holdings to meet margin requirements. This created a cascade.
"Selling of exchange traded funds by individuals was also conspicuous," said Kyoya Okazawa at BNP Paribas Securities (Japan). Major ETFs that track the Topix index of first-section stocks saw their trading value shoot to a seven-month high Feb. 4.
To put the pieces together: As foreign investors became net sellers in January, individual investors played a mop-up role, increasing their net buying to a monthly record of 1.42 trillion yen. But as the market turned against them, many investors who had bought on margin were forced out.
Those who took stock-long, yen-short positions also made a big miscalculation about how the Bank of Japan would act in the run-up to this April's consumption tax hike. Many foresaw "a scenario that the BOJ would carry out additional monetary easing ahead of the tax increase," said Norihiro Fujito at Mitsubishi UFJ Morgan Stanley Securities. But after New Year's, the central bank stomped on those expectations.
"We will maintain our current policy unless some unknown risks come to the fore," BOJ Gov. Haruhiko Kuroda told a news conference Jan. 22.
Hang in there
After all that, one might think market watchers would be in doom-and-gloom mode. Yet they are not.
Naohide Une at Goldman Sachs Japan believes foreign investors have largely finished squaring their positions.
By Feb. 10, the Nikkei average had recovered to 14,718. Foreign investors who own Japanese stocks as medium- to long-term investments remain bullish.
Dean Cashman, investment director for Japan equities at Eastspring Investments -- a unit of the U.K.'s Prudential -- said his company has not changed its strategy. Japanese corporate earnings have been improving, Cashman added.
In terms of profit growth potential and other considerations, Japanese stocks offer more value for money than U.S. ones, according to Arnout van Rijn, chief investment officer for the Asia-Pacific region at Robeco, a Dutch asset management company.
Van Rijn said he sees another factor that should underpin the Japanese stock market over the long term: inflows of cash through the NISA program, which offers tax-exempt investments.
Stephane Deo, global head of asset allocation at UBS, said the Nikkei average could gain 10% in 2014, with the yen weakening to around 110 to the dollar toward the end of the year.