As if the news from the Middle East hasn’t been creating enough uncertainty, now our attention shifts to the devastating earthquake, tsunami and nuclear disaster in Japan. Given this troublesome news, an inclination might be to want to sell stocks. However, as with most disasters, the recent Gulf oil spill being a prime example, the best course is normally to avoid significant investment changes.
The disaster in Japan will clearly have some effect on certain industries. Energy markets will be impacted, but in a different manner than the supply disruption in Libya. While Japan is not an oil producer, it has refineries, which have been damaged. The price of crude oil should not change significantly, but when our refineries were damaged from hurricanes Katrina and Rita, the price of gasoline increased. The West Coast of the United States will likely see elevated gasoline prices until the refineries are repaired. In addition, Japan will need to increase its imports of oil, natural gas and coal to increase generating capacity lost by its damaged nuclear reactors.
The earthquake did not damage Japan’s manufacturing plants, but power outages have disrupted production in many key industries. While many Japanese car brands are produced in the U.S., local manufacturers are still reliant on a number of Japanese parts. Because of this supply shortfall, dealers are offering fewer discounts on certain models. Japan is also a major supplier of semiconductors, which will likely impact the price of electronics for a period of time.
The public health consequences of radiation leaking from the nuclear power plants are very difficult to analyze. As a general rule, the doomsday scenarios commonly mentioned normally do not materialize. This is not intended to downplay the seriousness of radiation, but many public health scares such as bird flu and swine flu did not become major disasters. For now the highly populated areas in and around Tokyo have experienced some periods of higher radiation, but not enough to pose major health risks. In neighboring countries the health risks from higher radiation are minimal.
The Japanese earthquake will clearly have a negative economic impact on Japan for the next several months, but afterward, major rebuilding should stimulate the economy. Japan is important to the world, as its third-largest economy.
The impact to the United States should not be too significant, other than higher prices in certain industries. For the U.S. stock market the long term impact should be minor, though higher volatility can be expected for a while.
One area that I would not emphasize is longer-term treasuries. During periods of heightened uncertainty, investors naturally gravitate towards safer investments, as the yield on 10-year treasuries has fallen from the 3.7% range in February to 3.3% as of March 18. However, for more conservative investors, I would recommend keeping bond investments relatively short to lessen principal risk if rates rise. Inflation appears to be rising, as evidenced by the recent producer and consumer price reports, increasing the likelihood of yields increasing again.