After Japan Tragedy, Investing in Thailand Might Be a Good Bet

| About: iShares MSCI (THD)

The Japanese stock market is at a serious inflection point with respect to the future. After the selloff a few weeks ago, the stock market roared back as investors sought out perceived value in Japanese equities.

After a short rebound, the Nikkei has turned lower as the news regarding the problems at the Fukushima reactor appears grim, hampering cleanup and reconstruction efforts.

The earthquake in Japan has left many analysts scrambling to review first and second quarter estimates. Japanese exposure is being quantified within first and second quarter estimates, along with how the reconstruction will play out in the second half of 2011.

Already, ripples are being felt across global supply chains as automobile manufacturers are shifting production of parts made only in Japan to other factories. It is uncertain at this time if the affected plants will return 100% to Japan as manufacturers will look to diversify their global supply chains in the wake of this disaster.

Given the news flow coming out of Japan with regard to the damage at the Fukushima nuclear plants, it appears the problems at the reactors are much worse than expected. Water in Tokyo was declared undrinkable (I am ignoring the pronouncement made 24 hours later that it is in fact safe) for newborns, the radiation levels in crops near the plant are higher than expected, and now radioactive water has leaked into the ocean in significant quantities.

Prime Minister Kan's announcement that the situation at the nuclear plant ‘still does not warrant optimism’ is not a positive signal for the markets.

After reading the daily status updates from the Fukushima plants, it is becoming more apparent that the most likely scenario will be a Chernobyl style solution with the rods and nuclear fuel eventually being cemented in place and the surrounding area being declared off limits.

The corresponding spike in radiation levels out at sea worries me more than the readings on the ground because unlike the ground, where radiation will stay when it settles, the fish and water will continue to move and circulate around the Pacific.

Another side effect from the disaster will be the shift in consumer spending that has occurred because of the disaster. The images playing out on television screens of empty shelves in Tokyo food stores represent a shift away from flashy items like smartphones, and tablets to need items like food and water. It is unclear at the present time how this will affect retail sales, but it is likely to push retail sales lower after an initial spike.

The long-term effects are unclear, but if history is any indication, it is likely that retail sales in Japan will show very little growth for some period of time despite the jump coming from reconstruction efforts.

Due to increased radiation levels over the ocean and its unknown effects on the fish population in the Pacific, companies that farm fish suddenly become attractive. Unfortunately, the only fish stocks that I know of are AS Premia Foods trading on the NASDAQ OMX Tallinn Stock Exchange and Charoen Pokphand Foods in Thailand. This is for institutional and international investors.

The continuing uncertainty over the reconstruction will push Japanese stocks sideways until the nuclear crisis at Fukushima settles down over the coming months. Only then can the government ascertain and quantify the radioactive damage to the land and water in the area surrounding the Fukushima nuclear plant.

This will be important as it will determine the amount of reconstruction within the affected areas. As of this moment, I believe that most areas near the nuclear plant will not be rebuilt, and with manufacturing moving overseas, closer to final assembly factories, the demand for items like copper, steel, and other hard metals will be lower than expected from Japan.

The creation of a JPY 1 trillion loan facility by the Bank of Japan is a signal that they believe the supply chain problems to be short lived, and ultimately, the areas being reconstructed will be smaller than the world believes.

The Bank of Japan is correct in stating that there is considerable downside risk to the economy. If consumers remain scared and passive in their spending habits, it will hold back growth and may counteract any inflationary effects from the reconstruction efforts.

Ex-Japan Asian markets spent the first quarter re-adjusting to a new global landscape. Many central banks across the region are firmly entrenched in a tightening cycle, hoping to keep a lid on inflation and growth in real estate.

Risk has returned to the market over the past few weeks with Thailand breaking to new highs on positive thoughts ahead of a forthcoming election. Korea has returned to test old highs, with Indonesia and Malaysia following close behind.

The worry coming from Asia is that some of the more developed markets like Hong Kong and Singapore are lagging behind. Quite often, the developed markets lead and if they continue to lag behind, this may be a sign of a coming top.

There will be many questions regarding the effects on global supply chains arising from the earthquake and tsunami in Japan. The ripple effects are likely to be felt for some time as suppliers’ inventories are stretched out, and in some cases, vendors find replacements - either on a temporary or permanent basis.

China remains entrenched in a tightening cycle, attempting to squeeze commodity (especially agricultural) inflation out of the system.

The use of reserve requirements in China is a positive in that China can restrict bank lending while keeping interest rates low and keeping out hot money.

The recent move in raising interest rates shows that China is not afraid to use the heavy stick if necessary.

The recent problems with US listed Chinese firms regarding financial reporting are an example of why Chinese citizens are scared to invest in the stock market and prefer to own real estate and hard assets, like gold, over equities.

If trust and well developed capital markets are not in place then the citizens have few options available to invest their excess income. In Chinese society, a home is seen as something that cannot be taken away and the more problems that arise with listed firms, the slower capital markets will develop.

The development of strong capital markets that the public can trust would be the best way to deflate the housing bubble.

Asian agricultural stocks are a good investment at the present time, especially those companies who export products to Japan and rice growers as a portion of the farmland in Japan was destroyed in the tsunami.

Small investors can gain exposure to Thailand through the iShares MSCI Thailand Fund (NYSEARCA:THD).

As of December 31, 2010, THD had a large weighting towards 2 major energy Thai energy stocks, PTT PCL and PTT Exploration, which combined make up 20% of the index followed by 3 of the largest bank stocks, Bangkok Bank, Siam Commercial Bank, and Kasikornbank.

PTT is state owned, is listed on the Thai stock exchange, and a member of the Fortune Global 500. Interests include oil and gas exploration, petrochemical products, underwater pipelines, electricity generation, and retail gasoline.

The banking sector in Thailand is solid, having come through the financial crisis relatively unscathed. No banks collapsed and there was only limited exposure to the problems that gripped the world in 2008 and 2009.

In terms of agriculture exposure, there is a sizable holding in Charoen Pokphand Foods (CPF_TB). CPF is a large agriculture and food conglomerate in Thailand which exports shrimp and fish globally. In the wake of the Deepwater Horizon accident last summer, CPF jumped by 20% on expectations that the death of shrimp and fish in the Gulf of Mexico would prompt restaurants to switch suppliers.

In Japan, the Nikkei is at a key resistance level, just under the 200 day moving average. There is a chance we may see a pullback in the coming weeks down to the 8800 level, but with the Bank of Japan buying equities to support the market, all bets are off the table.

Until the problems at Fukushima are sorted out, it would be advisable to avoid Japanese equities until the damage and reconstruction efforts are fully quantified.

If you are thinking about donating to a charity, please think of the children who lost a parent or both parents to this tragedy, as this could be the greatest tragedy of all.

Disclosure: I am long Rojana and Ticon Industrial Connection.

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