Major market indices were lower last week. The DJIA lost 1.03%, the S&P 500 dropped 1.28%, and the Nasdaq fell 2.48%. Value stocks outperformed growth stocks. And the small cap index lost 2.69%. The 10-Treasury yield closed 9 basis points lower at 3.40%.
Friday afternoon, at 2:46 pm, Japan experienced an 8.9 magnitude earthquake, the sixth most powerful ever recorded. Shortly thereafter, a massive tsunami swept over nearly 400 miles of the northern Japanese coastline, including the population center of Sendai.
Shortly thereafter, officials began to speak of the unfolding meltdown at three of the four nuclear reactors in the northern Fukushima Daiichai power plant. The situation has deteriorated into possibly the worst nuclear accident since the Chernobyl explosion in 1986. As engineers attempt to prevent further compromise of the northern nuclear reactors, the story continues to unfold.
Japanese officials estimate the death toll to be well above 10,000. Possibly much higher. The untold misery of loved ones lost will be much higher. Please consider that the Japanese are a dynamic, generous and community minded culture. The Japanese rebuilt after WWII and became a world economic powerhouse. With the help of the world community, they will surely do so again.
Our hearts and prayers go out to the Japanese people. If you would like to donate to the Japanese Relief effort through the Red Cross, CLICK HERE.
How does this affect Japan's already precarious economic environment?
The Bank of Japan is acting quickly to provide support to various institutions. Still, Reuters reports that disaster-modeling company AIR Worldwide estimates the insured losses from the Japan earthquake at between $14.5 billion and $34.6 billion. Far exceeding the devastation of the 1995 Kobe earthquake.
The Nikkei closed -6.2% today to 9,620 on record volume, as investors had their first extended opportunity to sell Japanese stocks since the earthquake on Friday.
Manufacturers were hit hard, while electric utilities closed limit-down with some 15 nuclear power plants in questionable status. Construction firms were the only gainers on expectations of massive rebuilding initiatives. The yen fell to 79.7 against the dollar earlier today, within one yen of its all-time low, before settling. Oil futures fell as investors wonder whether the catastrophe will send the world's third-largest economy into a recession, so dampening global demand.
Toyota was down 7.23 percent. Nissan lost 8.25 percent. Honda lost 3.77 percent. Shares in Tokyo Electric Power and Tohoku Electric Power remained ask-only on concerns about nuclear power plant shutdowns amid massive selling demand. Toshiba, a nuclear reactor manufacturer, lost its 16 percent daily limit.
After the Kobe quake in 1995, Japanese stocks plunged nearly 26% before stabilizing. This situation will likely be worse. Counter intuitively, however, the massive spending on infrastructure and rebuilding may end up assisting in the massive deflationary environment Japan has long been trapped in. It will surely cause the Japanese to slow their purchases of U.S. Treasuries. Which likely assures the continuance of QE3 when the current program expires in June.
The S&P 500 is up 4% on the year following the conclusion of Q1 earnings. Do not be surprised by a pause in the market's performance, as this type of torrid pace cannot keep up forever. Like a mountain climber, even the fittest markets must occasionally pause, rest and recharge for the next upward push.
Bulls will need to maintain S&P 1,300 to retain the upward trajectory. That said, a pullback may certainly be in the offing.
We have long expected a correction. Perhaps no singular event may have been enough to catalyze a correction. But, recent events in Japan, the Middle East, the recent pre-announcements of some U.S. growth companies, coupled with the housing sector's stubborn malaise, all may lead to the market's exhalation, a surrendering toss of its arms, and a move downward.
As stated earlier, we believe that the situation in Japan will lead to their government having to support its own currency and stock market. So they will be less likely to buy U.S. bonds. This will likely force the Fed into QE3, which will be market positive. And as credit remains cheap, companies will look to buy competitors, as well as their own shares.
Companies and the government have too many resources at their disposal to stabilize and provide a bid beneath the market. This will likely prevent the end of this two-year bull market. But it won't prevent a 5%, 10% or even 12% correction. We will be watching closely. Stay tuned...