December 16, 2025December 16, 2025

Iceland’s Meltdown: How the Yen Carry Trade Broke a Nation

Despite the recent rally, the consensus bullish narrative on India is that “Indian markets are not overly expensive. Headline P/Es for the Nifty 50 & other benchmarks still look reasonable relative to history and global peers.”

But the real question you need to ask yourself is:

Aequitas’ bottom-up screening across the Nifty 50, Nifty Midcap 150, Nifty LargeMidcap 250, and Nifty 500 reveals a very different story:

Index valuations are being artificially muted by a handful of low-multiple PSUs and financials.
Once we strip out PSUs and Banks/NBFCs/Insurance, the core corporate universe trades at 40–45x median P/E, with a very long tail well above 50x.
84 of these stocks (as of 10^th Dec 2025) are quoting at 52-week lows, down 45% on an average from their peaks. Even after such deep corrections, they still trade at ~29x P/E on average.
Market breadth is deteriorating: in the mid-cap and large-midcap segments, nearly half the stocks have negative 1-year returns, even as the indices hover near their 52-week highs.

Taken together, these data points suggest bubble-like conditions in Indian equities – not a benign re-rating.

1. Nifty 50 – Valuations masked by a handful of PSUs.

Headline Nifty valuations appear “reasonable” primarily because low multiple PSUs and a few large financials pull down the index P/E. Let’s understand through numbers:

Sales:

Median YoY quarterly sales growth: ~9.9%
Negative sales growth: 7 companies (14%).
Sales growth <10% or negative: ~52% of companies.

2. Nifty Midcap 150: Overvalued and How!

While Nifty looks expensive, the Midcap 150 is the clearest warning signal. And for most investors, mid- and small-cap exposure is far higher than large caps — in pursuit of higher returns.

3. Nifty Large Midcap 250: Widening the Valuation gap

Nifty Large Midcap 250 shows the same pattern over a broader Universe.

Again, once we
remove the optically cheap PSUs and financials, the core large–mid universe trades at 40–50x+ earnings for most stocks.

Growth
and returns (ex-PSUs/Banks/NBFCs):

28% of companies have negative profit growth QoQ.
42% have profit growth below 10% or negative.
45% of stocks have negative 1-year returns.
63% have 1-year returns below 10% or negative.

4. Nifty 500: The Broader Market Is Also Stretched

The Nifty 500 confirms that this is not just a Midcap or one-off sector story

Profit growth in the core universe is also uninspiring:

32% of the ex-PSU/financial companies have negative profit growth
44% have profit growth below 10% or negative.

Analyst comments on the broader data mirrors this weakness:

Around 44% of Nifty 500 companies have negative 1-year returns,
About 62% have 1-year returns below 10% or negative.

Central to the meltdown was the yen carry trade.

A Hedge Fund Disguised as a Country?

Michael Lewis famously remarked in The Big Short, “Iceland is no longer a country. It is a hedge fund.”

1. From Fishing to Finance: The Making of a Bubble:

Iceland privatized its state banks around 2002. With such a small population, the banks had minimal domestic deposits, so they financed growth by tapping easy credit abroad. Interest rates in Iceland were kept extremely high (e.g., 15.5% in April 2008) as the central bank tried to curb inflation. But those high rates had an unintended effect: they attracted a flood of foreign money via the carry trade.

2. The Yen Carry Trade: Cheap Yen, Expensive Lessons:

Icelandic households and companies also loaded up on foreign-currency debt to finance homes, cars, and investments with cheap yen. Iceland’s banks—Kaupthing, Landsbanki, and Glitnir—became heavily dependent on this mechanism.

In nominal terms, the three banks grew from just a few billion euros of assets to over €100 billion (about 14.4 trillion ISK) by mid-2008.

By 2008, over half of all new corporate loans were denominated in foreign currencies, and a large share of household debt was linked to exchange rates. As long as the Króna stayed strong, this strategy seemed to work.

3. The Unwinding: When the Party Stopped, Everyone Ran for the Exits

In 2008, the global financial crisis hit, and the carry trade completely collapsed.

When the Króna dropped against the yen, debts ballooned in local-currency terms. At one point, it traded at
ISK 340 per euro (compared to 90–130 ISK/EUR in previous years), losing more than half its value before trading was shut down.

The yen surged from ~¥125/$ to ~¥87/$ as global investors unwound positions.

Trust Evaporates

By October 2008, the crisis peaked.

Iceland’s major banks—Kaupthing, Landsbanki, and Glitnir—defaulted within one week. The stock market, already
sharply down, collapsed further (OMX Iceland 15 lost over 90% of its value in euro terms).

The government froze all trading on the exchange for two days, to prevent further panic from spreading through the country’s financial markets.

Iceland’s crisis was caused not only by the yen carry trade—there were many other sins: excessive leverage, weak regulation, a massive property bubble, and reckless expansion abroad. But the foreign-currency mismatch was a key accelerant.

The Immediate Aftermath

The IMF was called in. The IMF and friendly nations lent Iceland $5 billion (1,190% of Iceland’s IMF quota) to bolster foreign exchange reserves and fund government deficits.

The IMF program (2008–11) helped restore confidence providing a platform for reforms. By 2011, Iceland met program targets & was growing again.

Conclusion: No Imminent Collapse, but a Critical Risk to Monitor

Iceland’s 2008 crisis is a dramatic cautionary tale of how a tiny economy became over-leveraged through foreign borrowing and carry trades—and how quickly it all unraveled when the tide turned.