The key to analysing Japan is to separate out change in Wealth from change in Output.

It is not necessarily the case that output will fall after a natural disaster.  In fact, in a well ordered and productive society, the opposite should hold true.

GDP isn't a measure of wealth, but a measure of the flow of production.  Japanese equities, of course, make the distinction more difficult, because these companies have both hold assets (many of which are probably valued by public trading - making the plunge in the Nikkei potentially self-reinforcing) & liabilities attached to real property.  Additionally, lower equity prices also increase debt-to-equity ratios, and could impede firms' ability to raise capital.

Our baseline scenario assumptions:

• In Chernobyl (which this should this should be viewed as an implausibly worst-case scenario), the exclusion zone was a 30km radius, or 2827km^2.  That's about 0.7% of Japan's landmass.  (the island nation is not quite as tiny as stated ...).  The radiation also dissipated much more quickly than was widely anticipated.
• Chernobyl is landlocked.  Half of any significant fallout would not affect Japanese land, but rather the ocean.
• The Japanese Prime Minister immediately said to expect a Japanese New Deal;  we have to at least partially believe this.
• The size and scope of the meltdown are not appear comparable.  There was no containment vessel, the core was filled with graphite, and the reactor was fissioning during the explosions and fire.  The radiation levels continued to rise in Europe over the following months until the sarcophagus was completed -- and it is still leaking radiation.  Levels have already fallen in Japan. 

There plenty of possible long-term health, financial and societal consequences, but the tsunami will be likely be far more impacting.  Given the market reaction after the earthquake vs the nuclear fears, we have to assume that the substantial leg down is pricing in far more unfounded nuclear fears (given above assumptions).

Ultimately, the biggest impact on Japanese equities & earnings will probably be power & supply-chain related.  The question is to what degree this impairs Japan's output for both domestic and foreign consumption.  Intuitively, we'd expect a decline in exports combined with an increase in domestic production and demand.  In this scenario, Japanese GDP may suffer while equities could actually outperform.

Alternative forms of energy production must replace the lost capacity in Japan, as well as possibly more broadly as the future of nuclear energy build-out globally becomes more dubious.  One of our favourite plays is natural gas supply-lines (not the underlying), and we were already fortunately long natural gas shippers.  We feel that these were still substantially undervalued before the Japanese crisis, and even more so now.  We are also presently analysing other commodity producers.

Although we are not betting Yen depreciation directly (our fair value estimate puts USD/JPY between 83 - 86), but we believe a Yen top is near, and should provide a foundation for Japanese equity appreciation, as:

• Productivity (and consequently Purchasing Power Parity) will decline,
• Demand in trade will shift as domestic consumption of foreign good supplies via rebuilding displaces domestic output normally configurd for export,
• The final wave of carry-trade unwinding should be finished.

This is still an opportunity to buy cheap Japanese assets that are on sale.