Japan's Stock-Market Shutdown Reveals Cracks in Trading System
By YUKA HAYASHI and ANDREW MORSE
Staff Reporters of THE WALL STREET JOURNAL
January 19, 2006; Page A1
TOKYO – The Tokyo Stock Exchange shut down trading during peak afternoon hours Wednesday, seeking to prevent a flood of sell orders from overwhelming its computer systems.
The market's emergency closure, the first in its 57-year history, followed a series of technological glitches in recent months and highlighted a weakness that could throw cold water on Japan's capital markets just as the country's economic recovery is gaining momentum.
It came as the benchmark Nikkei Stock Average plunged for a second day amid a selloff sparked by news that Tokyo prosecutors had raided the offices of Livedoor Inc., a high-profile Internet company favored by individual investors. Thursday, the market opened on time, and the Nikkei ended the morning session up 2% on bargain hunting.
Buoyed by confidence that Japan is finally pulling out of its more-than-decade-long slump, the Nikkei average rose 40% last year, outperforming markets in London, New York and Frankfurt. Volume has risen sharply as individual investors in Japan and foreign institutions like mutual funds and hedge funds have piled into Japanese stocks.
[Video-Goldman Sachs International Vice Chairman Robert Hormats on Japan's market selloff, citing possible "overconfidence" following 40% growth in 2005. Plus, Medley Global Advisors CEO Sassan Ghahramani talks about whether the selloff was overdone.]
Wednesday, the burden became too much. Twenty minutes before its scheduled closing at 3 p.m. local time, the Tokyo exchange -- the world's second-largest in market capitalization after the New York Stock Exchange -- suspended all trading in stocks, options and convertible bonds.
"The stock market is the foundation of the market economy," said Shinzo Abe, Japan's chief cabinet secretary, later told a news conference. "We at the government are very disappointed that this kind of situation happened and we must ensure all proper steps are taken."
The exchange said it hopes to expand its order capacity sharply by the end of the year but it wasn't clear whether it could avert a repeat of the early shutdown.
The Nikkei average ended Wednesday's truncated session at 15341.18, down 464.77 points, or 2.9%, its biggest single-day drop since May 2004. The early close rattled traders and investors, many of whom were unable to complete their orders, and caused concern that they might rush to sell when the market reopened Thursday.
"I think the pressure to sell is building up considerably," said Toru Kitani, senior investment manager at Sompo Japan Asset Management, a major Japanese investor with $10 billion in assets under management.
On Tuesday, the Nikkei had fallen 462.08 points on news of the Livedoor raid, which also affected other small companies. Tokyo's Mothers index, which measures the performance of start-ups and other small Japanese stocks, plunged a combined 22% Tuesday and Wednesday from an all-time high just before the news broke. Prosecutors are investigating whether Livedoor knowingly misled investors by spreading false information about its business practices and financial state.
Sell orders began to flood the exchange from early Tuesday after news of the raid. The selling gained momentum Wednesday and, shortly after the opening of the afternoon session, the exchange announced it was likely to close early to ease the strain on the exchange's Fujitsu Ltd.-built computer system. As the orders continued to flood into the system, exchange officials began calling brokerage firms, warning them that the situation might require a suspended session.
At 2:25 p.m., brokerage firms began receiving faxes from the exchange saying that trading was going to be suspended in 15 minutes. That caused havoc on trading floors that rely on so-called program trading -- trading done by computer programs that is often based on average trading patterns and timed to the market.
"We had to go into our system and pull the trades out," said a technology officer at a big Japanese brokerage firm. "We were settling them all by hand."
International investors in the U.S. said they found the Tokyo disruption worrying but stopped short of saying it would change their approach to investing in Japan. Many said the Tokyo market's long-term prospects remain bright thanks to a rebounding economy and a recovery in real-estate prices and bank lending.
Some, however, expressed frustration. "It surprises the heck out of me that such a high-tech country could have a stock exchange break down when it gets above a certain number of orders," said Vincent Willyard, a portfolio manager with Nicholas Applegate Capital Management in San Diego. "Clearly there are some problems going on with this system."
During Japan's long economic slump, when trading was light, the Tokyo exchange skimped on upgrading its computer systems, leaving it ill-prepared for the recent rise in volume as investors returned to the market. Wednesday, the exchange processed a record 3.28 million transactions, up from an average of about three million trades in recent months. By contrast, the NYSE, which averages five million trades a day, has expanded its capacity to stay ahead of U.S. trading volume.
Much of the new Tokyo volume reflects the booming growth of online trading in Japan, which now accounts for more than 16.8% of the total value of shares traded in Tokyo, according to the Net Securities Association, an industry trade group. Online traders tend to place many small orders, rather than a few big ones, eating into the exchange's computer capacity. Online customer accounts in Japan nearly doubled last year to 2.2 million, according to the trade group.
Yoshihito Sato, executive officer at E*Trade Securities Co. of Japan, which has business ties with E*Trade Financial Corp. of the U.S. but no investment ties, says the exchange failed to anticipate such fast growth in online trading, and didn't increase capacity to accommodate it. "Right now, it's not a place where investors can feel safe," he said.
While exchange officials reopened the market as usual Thursday, they said they would shorten trading by a half-hour a day until volume returns to more manageable levels. They also said they may suspend trading again if activity hits its current effective capacity of 8.5 million orders received, or four million orders matched.
[Chart: Rising market, static system]
The exchange hopes to expand its capacity to 14 million orders per day by year end, said Hironaga Miyama, one of its executive officers. "We will try to start adding to the capacity as soon as we can, even as little as one million orders at a time," he said. But asked if that level would be enough, Mr. Miyama said, "It's really hard to predict where the volume will stabilize. It is just so unstable."
Wednesday wasn't the first time the Tokyo exchange has tried to deal with increased trading by cutting hours. In June 1988, at the height of Japan's previous stock-market boom, the exchange temporarily shaved 30 minutes from its afternoon session, unable to process the flood of trading orders, which were handled manually at that time.
The latest disruption extends a recent string of embarrassments for the exchange. In December, it was blamed for its late response to a botched trading order that cost the brokerage arm of Mizuho Financial Group Inc. about $335 million in losses. A month earlier, computer troubles shut the exchange down for almost a day. In a traditional Japanese act of contrition, then-President Takuo Tsurushima and several other executives resigned to take responsibility.
The exchange's troubles come as stock markets around the world increasingly are trying to build alliances or buy competitors. The NYSE is in the midst of a merger with Archipelago Holdings Inc., an electronic-trading platform, while in Europe, Deutsche Börse AG and Euronext NV have held preliminary merger talks. Others, like the London Stock Exchange, have gone public.
Meanwhile, big U.S. companies, like International Business Machines Corp. and Motorola Inc. have delisted in Tokyo and the exchange's efforts to attract companies from fast-growing neighbors, like Korea and China, have stumbled.
Analysts say the New York and London stock exchanges are less prone to technology problems because they have appointed high-ranking executives to oversee their computer systems. The Tokyo exchange has yet to appoint a chief technology officer, though it has said it will.
In addition, the London exchange has upgraded its technology three times since it went public in July 2001. A new trading platform slated for introduction about a year from now will increase capacity by about 66%, an LSE spokesman said.
The NYSE has shut down early in the past but hasn't done so due to capacity problem since the weeks following the U.S. stock-market meltdown in October 1987, when it temporarily closed 30 minutes to two hours early most days to lighten the load on trading firms trying to process trades. The market reopened for normal hours Nov. 12, after the backlog had declined.
The Big Board estimates it now has capacity to handle four to five times its average daily volume of about 1.6 billion shares. An NYSE spokesman added that the exchange on a normal day uses only about 10% of its order capacity. |
