"Cash is king" might just be the mantra of the moment, but what does it mean when even the most seasoned investors are stockpiling it at unprecedented levels? On August 5, 2024, a global chill swept through the stock markets as Warren Buffett, the revered Oracle of Omaha, amassed a staggering $276.9 billion in cash - an all-time high for his Berkshire Hathaway. His strategy was telling: a drastic cut in Apple shares and a relentless 12-day reduction of Bank of America stakes. Meanwhile, in India, the cash reserves on Dalal Street hit a colossal 1.52 lakh crore rupees. Are these monumental cash hoards merely a defensive play, or are they harbingers of an impending market storm? Dive in to uncover the implications of this massive shift and what it could mean for the future of your investments.
The US Equity Markets plummeted with major stock indices of the country falling sharply causing the ruckus. Numerous factors played a role behind such a fall: US recession fears, Middle East tensions, and even Japan. The real shocker was the absolute collapse of Japan’s Index Nikkei 225, owing to the interest rate hike by Japan’s Central Bank sending shockwaves to the rest of the world. Even the Indian markets were not spared and 3,414 stocks ended the day in the red with investors losing Rs 15 lakh crores. What exactly caused the market mayhem that took place on Monday? Is Japan the only one to blame for the global crash or is it just the tip of the iceberg?
A structural shift in Japanese policy
The Bank of Japan (BoJ) decided to increase the key interest rate dramatically from around 0-0.1% to 0.25%. It led to a change in the monetary policy of Japan which hadn’t been touched in over two decades. Such a move resulted in a massive sell-off across the globe causing Nikkei 225 to fall by 12%, the worst since 1987.
The economy of Japan had been stuck in a stubborn economic decline for years, which is why Japan had to take a drastic step in 2016, with the intention to incentivize banks to increase lending capacity, a charge was imposed on banks for holding excess reserves with the central bank. The country’s economy, however, was unable to meet its inflation target of 2% despite continuing with years of ultra-loose monetary policies. Even though the country avoided absolute deflation, it was still stuck with a low-growth environment.
The Yen carry trade strategy also had a significant impact on global financial markets. It is a trading strategy that involves borrowing the Japanese yen (JPY) and using the funds to invest in higher-yielding assets denominated in other currencies.
The question is, why did Japan increase the interest rates suddenly? The decision to abandon the ultra-loose monetary policy included various factors, one of which was the falling value of Yen. The Japanese yen was depreciating exceptionally against the US dollar, due to the deflationary gap. Moreover, the increasing rates of inflation in other economies increased pressure on the Japanese economy and due to sight of improvement, the economy showed signs for reducing the need for ultra-loose monetary policy.
This increase in interest rates significantly brought changes in the economy of Japan, the Japanese Yen appreciated against the US dollar. However, this led to chaos in the global financial markets. The volatility led to decline in stock prices first than recovering. As the Yen was appreciated, the investors of profitable yen based investments were forced to cut their losses. This Triggered a market meltdown. This unexpected policy shift carries risks of a global economic slowdown, financial instability, etc.
Looming recession fears in US economy
Japan is not the only reason behind the global meltdown. Fears of the US entering a recession played a big part in the collapse of the equity markets. The US indices, The Dow Jones Industrial Average fell by 2.48%, the S&P 500 plunged by 2.85% and the Nasdaq Composite dropped by 3.36%. What fueled the recession fears?
The US released its jobs reports for July stating that the unemployment rate rose to 4.3% from 4.1% and the monthly job creation was weaker than expected. The nonfarm payrolls increased by just 114,000 jobs in July which was well below the 200,000 jobs required to keep pace with the growing population. The slowed labour market is a result of low hiring instead of layoffs due to the Federal Reserve's interest hikes which have dampened the demand.
Even the manufacturing Purchasing Managers' Index, PMI of the United States hit pretty low for a few months now. But what is manufacturing PMI? Purchasing Managers' Index is a tool summarizing economic activity in the manufacturing sector in the US. The index is based on a survey of manufacturing supply executives conducted by the Institute of Supply Management. PMI of the US stood at 46.80, a -3.51% change from the last month and has been experiencing a downward trend. The index helps determine the economic health of the country and such a poor performance was also a reason for a mass sell-off.
These recession fears naturally drove the investors to withdraw their investments from the risky assets and run for safety and invest in gold and bonds.
The sell-off primarily focussed on the Magnificent Seven group of stocks which were the reason for the indices’ record high performance this year. The Magnificent Seven Group of Stocks include the stocks of all the world's tech giants: Apple (AAPL), Microsoft (MSFT), Alphabet (GOOGLE), Amazon (AMZN), Meta Platforms (META), Nvidia (NVDA), and Tesla (TSLA). After enjoying heavy gains for the past year, the big guns have come under pressure as the investors have begun to realise that the hefty AI investments shall take a long time to pay off. The big sell-off was also due to recession fears that wiped out nearly one trillion dollars from the combined market value of the seven companies. Also, Warren Buffet’s Berkshire Hathaway halved its stake in Apple, its top holding, raising worries about the tech industry. Nvidia’s shares fell by 6.4% owing to the delays in the highly anticipated Blackwell chips due to design flaws. "Expectations have arguably become too high for the so-called Magnificent Seven group of companies. Their success has made them untouchable in the eyes of investors and when they fall short of greatness, out come the knives," Dan Coatsworth, investment analyst at AJ Bell, said.
JP Morgan has claimed the chances of the US hitting a recession at 35%. The Federal Bank has expressed concerns over the labour markets and shall shift its focus to employment expecting rate cuts in the subsequent future.
Unrest in the Middle East
Geopolitical tensions in the Middle East have played a significant role in the crash. Stocks slipped after Iran attacked Israel, intensifying the ruckus in the Middle East and keeping investors on edge. Although the Middle East tensions had an indirect impact on the crash, they created a climate of uncertainty leading to sell-offs by risk-averse investors. Any instability or conflict in this crucial oil hub can cause drastic oil supply disruptions and price fluctuations, impacting global economies and financial markets, and the Monday crash was a byproduct of such conflict.
India's Market Outlook Post-Crash
Even India was not spared by such carnage in the global market, with its stock indices experiencing significant declines. The NSE (National Stock Exchange) and BSE (Bombay Stock Exchange) showed a significant decline on August 5, 2024, because of the Reverse carry yen trade. The benchmark indices Nifty 50 and Sensex dropped by approximately 662 and 2223 points, i.e., around 2.68% and 2.74% respectively. Indian investors faced notable losses as the overall market capitalization plunged. A substantial amount of money was pulled out of the Indian market by Foreign Institutional Investors (FIIs), contributing to the market downturn. This also led to increased market volatility, making it difficult for investors to predict the price movements. Various sectors, including banking, IT, metals, and oil & gas, were affected by the sell-off, leading to price declines for individual stocks.
The path forward for the Markets
The global market turmoil of August 5, 2024, has left investors reeling, but India may find some solace in the relative resilience of its markets compared to others. While the Indian market faced significant losses, it has not endured the same level of devastation as seen in Japan or the U.S. This could position India to stabilise sooner, especially as global factors begin to settle. However, the road to recovery will not be smooth, and investors will need to navigate continued volatility in the coming weeks.
Market expert Sunil Shah quoted in an interview “Markets are mimicking and taking cues from the global numbers, so when the global markets are down, we cannot be totally insulated.” According to him, liquidity is causing the selling pressure and there is nothing fundamentally wrong for Indian investors to be worried about.
Adding to the global market tension, expectations are building around the U.S. Federal Reserve's next move. As of July 31, 2024, the Fed held interest rates steady at 5.25% to 5.5%, but hinted at a potential rate cut in September. This possibility has stirred investor speculation, but whether the Fed will indeed reduce rates or maintain its current stance remains uncertain. Could this have been merely a reactionary fear among investors, or is there more to unfold?
Authors: Parineeta Shrinath Shaw and Cheruvu Sai Kartikeya
Illustration: Pavni Choubey
Sources
• TradingView
• Business Today
• Business Standard
• Google Finance
Comments