TOKYO The Nikkei average fell on Tuesday as companies heavily exposed to China were caught up in tensions between China and Japan over a territorial dispute that disrupted business and production, and left investors pondering unsettled scenarios.
Should the anti-Japanese protests in China worsen or the dispute over the islands escalate, China-related companies would likely see further sell-offs as their earnings from the world's second-largest economy could come under pressure.
But were the matter resolved quickly, analysts said, Tuesday's sell-off in some China-exposed names would give investors a handy buying opportunity.
"Chinese factors have two aspects: if the situation prolongs, then it would weigh on the Nikkei and if the problem is resolved soon, it would spur a buy-back," said Masayuki Doshida, senior market analyst at Rakuten Securities.
The Nikkei share average ended 0.4 percent to 9,123.77 after rallying 1.8 percent on Friday after the U.S. Federal Reserve launched its QE3 round of stimulus. Monday was a public holiday in Japan.
"The concerns are what, if anything, these Chinese protests turn into," said a senior dealer at a foreign brokerage said.
Investor demand for put options outpaced demand for calls. Societe Generale analysts said most popular put options on the Nikkei with an October maturity had a strike price at 8,250, nearly 10 percent below Tuesday's close.
The next most-traded was a put option at 8,750 followed by a call at 9,500 and another put at 8,000.
Nissan Motor Co (7201.T) sank 5 percent to seven-week low and was the most-traded stock on the main board by turnover after the automaker said on Monday it had suspended production in China for two days, while Honda Motor Co (7267.T) dropped 2.5 percent.
Construction machinery makers Komatsu Ltd (6301.T) and Hitachi Construction Machinery Co Ltd (6305.T), which have considerable exposure to China, lost 1.8 and 2.3 percent, respectively.
Fast Retailing (9983.T) sagged 7 percent, hitting a one-month low and marking its worst one-day percentage loss in three months, after it said it would close more of its Uniqlo clothing stores in China on Tuesday, as it expects anti-Japan demonstrations there to escalate.
Other retailers have also closed many of their stores in China. Supermarket operator Aeon Co Ltd (8267.T), which shed 2.8 percent, said it had closed 30 of its 35 stores in China as of Tuesday.
The broader Topix index added 0.2 percent to 758.36, with nearly 1.8 billion shares changing hands, down from a six-month high of 2.5 billion reached on Friday but up from last week's average of 1.62 billion.
The softer yen supported some exporters, with Mazda Motor Corp (7261.T) up 1 percent, Canon Inc (7751.T) adding 1 percent and industrial robot maker Fanuc Corp (6954.T) gaining 1.7 percent.
The yen was quoted at 78.656 to the dollar on Tuesday and had retreated as far as 78.93 on Monday, a one-week low, pressured by speculation the Bank of Japan might ease policy later in the week. It was well off a seven-month high of 77.13 hit last Thursday after the Fed announcement.
CLSA said the Japanese market "offers dirt-cheap optionality on an upturn in global markets."
"Japan is downside-protected, where Western markets have factored in good things that haven't happened yet. Topix has a strong track record as the geared play on global markets," said Nicholas Smith, Japan strategist at CLSA in a report.
According to Thomson Reuters Datastream, the Topix carries a 12-month forward price-to-book ratio of 0.82, much cheaper than the U.S. S&P 500's 19.3 and the pan-European STOXX Europe 600's 1.33.
The Nikkei is up 7.9 percent so far this year, underperforming a 16.2 rise in the S&P 500 and a 12.5 percent gain in the STOXX Europe 600.
Ryota Sakagami, chief strategist at SMBC Nikko Securities, said the Fed move would stimulate U.S. economic growth and drive the so-called "risk-on" trade, which will help keep the yen weak.
"This uptrend will continue until the end of November before the market starts to discount the impact of a fiscal cliff in the U.S. I think in one to two months, the Japanese market will outperform the global market," Sakagami said.
He added that his year-end Nikkei target was 10,500 to 11,000, at least 15 percent upside from Tuesday's close.
(Additional reporting by Chikako Mogi; Editing by Eric Meijer)