Big Japan Short Redux Outside Tokyo Even As Locals Bet On BOJ
(Bloomberg) – The post-Jackson Hole global debt rout has renewed scrutiny of funds betting against Japanese government bonds, although this time around some expect less fireworks than the market n saw some in June.
AllianceBernstein Holding LP and GAMA Asset Management join a cohort of fund titans that are short or underweight JGBs on bets that the Bank of Japan will have to loosen its iron grip on yields as soaring inflation hammers bonds everywhere. Local investors have a different approach: you can try to beat the BOJ, but it’s called the “widowmaker” trade for a reason – no one has succeeded yet and they probably won’t now.
That doesn’t stop global funds from trying. Japan’s 10-year yields – those targeted by the central bank as part of its curve control policy – hit their high of 0.25% this week and threaten to rise day by day as peers rise in the world. As bets on higher US interest rates rise and the yen tumbles to new lows, pressure is mounting on the BOJ to once again fight bond vigilantes.
“Interest rate differentials, the potential for imported inflationary pressures to start rising with a much weaker yen – they’re going to have to force the BOJ’s hand eventually,” said Brad Gibson, co-head of securities at fixed income for Asia-Pacific at AB. , which is underweight Japanese bonds. “It’s probably now in our minds that it will happen sooner rather than later.”
Japan’s sovereign bond market – the world’s second largest – has already fended off speculative attacks this year as traders bet in June that strong growth in global prices would force the BOJ to change its policy. But a series of unprecedented asset purchases, coupled with fears of a global recession, pushed yields lower for some time and the BOJ stubbornly maintained its low interest rate policy and benchmark return cap.
Today, 10-year yen swap rates – which are popular with international funds – are moving up again. They were nearly 15 basis points above the BOJ’s 0.25% line in the sand on Thursday, a sign that at least some traders are betting Japanese authorities will be forced to capitulate, but not to the degree seen. earlier this summer when swaps approached 0.60%.
“It’s likely that the BOJ will do something to adjust yield curve control at some point,” said Rajeev de Mello, global macro portfolio manager at GAMA Asset Management in Geneva, which has sold JGBs since May. . “Risk-reward is not bad for short JGBs.”
In the bullish corner are some of the biggest Japanese funds.
BOJ Governor Haruhiko Kuroda has repeatedly called for ultra-loose monetary policy to combat deflationary forces in the third-largest economy. At the recent Jackson Hole symposium, he said he had “no choice” but to continue easing monetary policy because inflation will come down in Japan this year or next.
While Kuroda sticks to his dovish message, Shinji Kunibe of Sumitomo Mitsui DS Asset Management Co. believes any further attempts to bet against the BOJ are unlikely to succeed.
“In June, there were doubts, even among the Japanese, about the BOJ’s position, but it’s now crystal clear,” said the head of its global fixed income group in Tokyo. “This time, the impact of foreigners shorting JGBs will not be as strong as domestic buyers will not join in their sales.”
Bond market volatility may not increase until Governor Kuroda’s term ends, Kunibe added.
Complication of the yen
Complicating matters for Kuroda is the further decline in the yen, as Japan’s yield gap with its overseas peers widens. The currency hit a fresh 24-year low on Thursday and broke the closely watched 140 to the dollar level that is rekindling talk about the likelihood of authorities stepping in to support it.
The falling currency is helping fuel inflation in Japan, causing businesses and households to complain about high prices. An adjustment to yield curve control – such as raising the cap on the benchmark yield – would likely strengthen the yen and relieve some of this pressure.
But economists widely expect the BOJ to maintain its current monetary easing program until Kuroda’s term expires in April, even if that leads to further weakness in the currency. The governor insists he needs to see bigger wage increases before he can accept that recent inflation levels above his 2% target are sustainable.
One factor that could work in the BOJ’s favor is the risk that overly aggressive US rate hikes will cause a recession and lower yields. Options markets are still pricing in more than a 25 basis point Fed rate cut next year.
U.S. inflation is also expected to peak this year or early 2023, which could lead to such reductions and ease pressure on bond markets, said Hachidai Ueda, senior investment specialist, fixed income at abrdn. With less upward pressure on Japanese rates and downward pressure on the yen, “this should increase the likelihood that the BOJ will retain control of the yield curve.”
For fund managers like Tadashi Matsukawa of PineBridge Investments Japan Co., it’s also much safer to stick with the central bank you know than to bet you don’t.
“I regularly buy the 10-year when its yield hits 0.25%,” he said. “Kuroda told Jackson Hole there would be no change in monetary policy, and we just trade based on what he said.”
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