An epic fall on Japan’s stock market set off a worldwide sell-off. Duncan Greive explains what it all means.

“Is this 1987 all over again?” asked the Wall Street Journal, the paper of record for global markets, after a day of decimation on global share markets. For those not born in the go-go 80s, 1987 is a year that brings chills to the hearts of investors of a certain age, largely due to the events of Black Monday, when the Dow Jones Industrial Average, a group of major US corporations, slid 22.6% in a single day.

The 87 crash was precipitated by a slump in Asian markets, which open ahead of those in much of the rest of the world due to time zone differences. That’s what made yesterday send shivers through investors, after Japan’s Nikkei stock index fell over 12%, its worst one-day swoon since 1987. 

This prompted a sell-off around the world, with European stocks down 2%, the US’s crucial S&P500 down 3% and the tech-heavy Nasdaq index down almost 3.5% – the largest declines in two years. It was not confined solely to stocks, with crypto assets like Bitcoin dropping 15% and Ether 22%. Closer to home, Australia’s ASX lost 3.7% on Monday, wiping AU$100bn from investors, while the local NZX has opened down 1% this morning in early trading. 

What’s prompting the panic?

Global markets have surged all year, driven higher by hopes AI would provide a much-needed productivity boost. This has been led by chipmaker Nvidia, closely followed by the likes of Alphabet (owner of Google), Microsoft (a key investor into OpenAI) and Meta (which has posted powerhouse earnings, partly thanks to incorporating AI into its ad products).

The buoyancy is also down to a belief that the US central bank had succeeded in the fabled “soft landing”, managing to bring down post-pandemic inflation without causing a recession. But lately there has been a lingering sense of excessive confidence, masking a number of major risks. Very weak US jobs data on Friday seemed to confirm fears that a recession was still a live possibility.

Another thread was elegantly expressed by the Economist, which recently ran a cover featuring an image of a bull (the symbol for charging markets) wearing a blindfold, asking how long markets could ignore politics. That’s because the US election brings danger no matter who wins. Republican presidential candidate Donald Trump is threatening an inflation-spiking 10% tariff on Chinese imports. His running mate JD Vance is deeply suspicious of big tech – the very stocks that have driven the bull market higher. 

The swiftly elevated Democrat Kamala Harris is more of an unknown quantity, but has refused to indicate her feelings towards firebrand Lina Khan of the FTC (Federal Trade Commission), who (like Vance) has big tech squarely in her sights on antitrust (anti-competitive conduct by companies) grounds. Just today, a major ruling called Google a monopolist in search, meaning a long-mooted breakup or blockbuster fine could be rounding into view. There are major cases in train against Apple, Meta and Amazon too.

There are also murmurs that AI might not be the technological marvel it’s cracked up to be, with Goldman Sachs issuing a warning last month. As The Spinoff’s Shanti Mathias reported last week, it requires astronomical levels of power, and phenomenal investments in chips and data centres. As of now, all that is largely being funded by investment rather than businesses or consumers (shades of the “millennial lifestyle subsidy” that underpinned the likes of Uber for many years), making some in tech wonder if it is a sequel to recent crypto and metaverse hype cycles. 

There are growing fears that AI will never be able to shake off its errors, and that its costs and demands for power and data will stand in the way of it being the profit machine the big tech valuations imply. That’s partly what underpinned steep declines in the share prices of Alphabet, Microsoft and Nvidia, while Apple was also impacted by a disclosure that famed investor Warren Buffet had halved his company Berkshire Hathaway’s huge stake in the company.

How bad is it really?

There’s a clue in some of those numbers above. While the Japanese drop is freaky, most of the rest are far less steep. They largely represent a return to highs seen earlier this year. The Nasdaq, S&P500 and ASX200 falls simply took the markets back to levels last seen in early May. The NZX, meanwhile, has only dropped back to its level of July 16. This partly reflects a stodgier, less dynamic market – but also blunts the impact on local investors.

It doesn’t mean we’re out of the woods by any means. What made 87 shocking was the fact it happened in a single day (though New Zealand slid further and for longer, largely because our market was built on some very funky companies). As the late, great Brian Gaynor noted on the 30th anniversary of the 87 crash, by 2017 the NZX50 had yet to recover the all-time high reached prior to the crash.

It’s true that there are a number of crucial market indicators, including the Cboe volatility index (or VIX), commonly known as the “fear index”, which has spiked to very high levels, including an intraday high not seen since the dread markets of the early pandemic in 2020. Yet even those are not perfectly correlated with recessions – as the Wall Street Journal noted, “87% of the time, investors who bought the S&P 500 on days when the VIX closed at 30 or higher ended up making money a year later.”

What’s an innocent KiwiSaver to do?

The general and always-on advice for everyday investors and those anxiously watching their KiwiSaver accounts is to turn a blind eye to all this. “Stocks are crashing – that’s a great reason to sit tight”, wrote the Wall Street Journal’s money columnist, while the New York Times’ equivalent echoed that in saying “when the stock market drops, stay calm and do nothing”. 

This is partly because trying to time markets is something even the most highly paid financiers struggle to accomplish with any consistency. But it’s also because the contributors to this sell-off are considered far less consequential than some prior market routs. At the start of the GFC, you had major investment banks failing due to an excess of risky home loans, the tech bubble was inflated by essentially valueless stocks reaching huge market caps, while the failure of hedge fund Long-Term Capital Management was due to system-wide risk.

Many are attributing these falls to something far more banal: profit-taking. Because markets have surged this year, there are many asset managers who had followed the market up, making gains on paper of 20% or more in just a matter of months. The bad jobs report (which showed US unemployment data had unexpectedly risen in July) and worrying results from key tech stocks made some decide to just convert the upswing into cash for the time being.

Another reason for cautious confidence is that many central bank interest rates – including our own – are at or near their highest level in a decade or more. It means that if the economy sputters and unemployment jumps, the likes of Adrian Orr only have more incentive to lower interest rates. This will release more money into the economy, through homeowners paying less interest, and allow businesses to borrow at cheaper rates.

None of which guarantees that this won’t go further. But it does make a bunch of plunging line charts slightly easier to stomach.