Markets weighed by catastrophe

(15.03.2011) The Japanese catastrophe is weighing on the markets, sending investors into safe havens. The yen keeps strengthening as a consequence of Japanese capital returning home to provide aid and help rebuilding the country.

By Kjersti Haugland, Analyst at DNB Markets

illustration asian lampThe perception of fear and unrest increased in markets yesterday, and investors fled the stock markets to invest in long US government bonds. NOK and SEK weakened, as small and less liquid currencies often do in periods of great market unrest. Investors chose to invest in the perceived safe havens instead, as the Swiss franc and the US dollar.

The world's attention is directed towards the very serious and tragic situation in Japan, which is becoming even more severe due to radioactive wind approaching Tokyo and the threat of large after-quakes. The financial markets are no exception.

The Japanese Nikkei index kept falling during the Asian session, and is down by more than 10% since yesterday morning.
After a short-term weakening in the wake of substantial liquidity supply to the markets by Bank of Japan, yen has continued to strengthen. Rumours about FX interventions by the government to stop the appreciation trend led to a (temporary) weakening of the yen. Finance minister Noda would neither confirm nor deny the rumours, but emphasised that movements in the currency market is closely monitored. We do not regard future interventions as unlikely, even though previous efforts to weaken the yen by such measures have proven futile. Our view is that yen will weaken against the USD going forward.

Relative growth prospects, relative differences in monetary policy (zero interest rate policy in Japan for the foreseeable future, increased asset purchases announced yesterday), and eventually increased carry trade appetite when global interest rates are increasing, are the main arguments behind our view. In addition, the Japanese yen has seemed overvalued for a long time by purchasing power measures. The high and growing debt burden, and the prospect of higher funding costs in the future, supports our view.

Further unrest in the Middle East, caused by Saudi Arabian forces being sent into Bahrain to prevent protest against the Sunni minority government, also contributed to low risk appetite among investors yesterday. The oil price rose during Monday's sessions, but has later come down, and is at the moment trading lower than yesterday morning.

There is reason to expect another day of unrest in markets. Signals from the interest rate meeting in Federal Reserve later today will still receive a lot of attention. The press release will probably reflect that the majority of indicators have surprised positively lately, most importantly unemployment (declining to a level below 9%) and high ISM indices. High oil prices are weighing on future growth outlook however, given that the level remains high or even increases further. We do not expect Fed to follow ECB's and Bank of England's lead on signalling the end to ultra expansive monetary policy. Instead we expect QE2 to proceed as planned, and the central bank to keep its commitment to keep the key policy rate at record-low levels for "an extended period".

Positive news about euro zone growth keeps coming, and the great divide between the large member countries and the peripheral and debt-ridden member countries increases. Production growth in January at 0.3% m/m was in line with expectations, but the upwards revision of December production (from a small decline to +0.3%) was another positive surprise. Irland, Spain, Greece and Portugal contributed to pulling the index down. Portugal's annual growth has come into negative territory. While the German annual growth is highest among the members (11.1%, while euro zone growth in total is 6.6%), France had the highest monthly growth in January. Today's most important European indicator is the German ZEW index, an indicator of German investors' sentiment.