Dislocation signs appearing in capital markets

Capital markets are starting to show signs of dislocation while outlook for stock markets remain grim as investors grapple with growing likelihood of earnings disappointments and rising interest rates in the face of elevated levels of global inflation that leave central banks’ targets looking out of reach for now. US credit markets are also starting to convulse as buyers strike has led to cancelations of large buyout financing plans as the negative impact of higher rates on economic growth is further compounded by quantitative tightening.

Moreover, Russia’s annexation of four occupied regions in Ukraine points to likely escalation of the conflict in Eastern Europe which many fear could lead to Putin to desperately resort to tactical nuclear strikes as Ukrainian forces continue to push back Russia’s occupied forces. With China, Brazil and India abstaining the latest UN Security Council resolution in calling the annexation unlawful, geopolitical tensions among global powers also look to be rising further.

Looking inwards towards our own market in Japan, stock prices are understandably retreating and as we pointed out, the stock market’s relative outperformance year-to-date looks unsustainable given its highly cyclical nature. Indeed, the Topix index which is the measure of Japan’s broader market is now looking very likely to fall below its March lows when the war in Europe first broke out. 

Although the strong dollar is undoubtedly putting downward pressure on currencies of all emerging markets, for months we have argued that BOJ’s own policy errors in not pivoting away from its ultra-loose monetary policy are also partly responsible in setting the stage for an Asian currency contagion which could spill over globally. We think this scenario is looking increasing probable.

Amusingly, the BOJ chief, Kuroda-san was forced retract his earlier statement that the central bank could hold its monetary as loose for the next two to three years. As we noted last we found this statement truly shocking and to us it further underlined his failures in calming fears of a yen implosion which led to a massive currency market intervention to help stabilise the yen which has proven very short lived. 

Last week’s news that the governor’s statements post BOJ’s policy meetings will no longer be published was equally shocking. What we found equally surprising that almost nobody seemed to have raised any objections about this censorship. One can only imagine how the US market participants would react if the US Fed Chairman’s statements were retracted from the policy board minutes in order to keep the markets calm.