Oct. 17 (Bloomberg) -- Japan's two-year notes declined, pushing yields to the highest for more than two years, on concern the Bank of Japan will reduce the amount of money it pumps into the banking system.

Ten-year bonds are also extending their longest losing streak since April of last year, as central bank Governor Toshihiko Fukui said on Oct. 12 that interest rates will eventually rise. Fukui and U.S. Federal Reserve Chairman Alan Greenspan are scheduled to meet in Tokyo today.

``Concern the central bank will change its monetary policy will keep bonds lower,'' said Nobuto Yamazaki at DLIBJ Asset Management Co. in Tokyo. ``Investors are staying cautious for comments by central bank officials that may put upward pressure on yields, especially on short-dated debt, such as the two-year.''

The yield on the 0.2 percent note due October 2007 rose 3.5 basis points to 0.295 percent as of 2:02 p.m. at Japan Bond Trading Co., the country's biggest debt broker, the highest for a two-year note since Sept. 3, 2003. Its price fell 0.069, or 69 yen per 100,000 yen face amount, to 99.812.

Yamazaki, who helps oversee the equivalent of $6.1 billion in mutual funds, said he is keeping the duration of his debt holdings shorter than his benchmark. Duration measures sensitivity to yield changes. The lower an investment's duration, the less it loses when yields rise.

Close to an End

The yield on the 1.5 percent bond due in September 2015 rose half a basis point to 1.575 percent, the highest since Oct. 8 last year at Japan Bond Trading.

Ten-year bonds last week completed their longest slide since April 2004 as Fukui also said Japan is close to an end to more than seven years of falling consumer prices.

The central bank in 2001 flooded the banking system with money to push interest rates to near zero percent, a policy known as quantitative easing, to end deflation. Deflation increases the value of bonds' fixed payments.

``The central bank has continued signaling the shift in monetary policy and now investors have to assume yields are poised to rise in the long term,'' said Tatsuo Ichikawa, a fixed-income strategist at ABN Amro Securities Japan Ltd., one of 27 primary dealers that are required to bid at government debt sales.

Tanigaki

Ten-year yields may advance to 1.61 percent this week, Ichikawa said.

Declines in bonds maybe limited by concern energy costs will slow economic growth.

Rising oil prices are the biggest risk to the global economy and countries need to save energy and increase efficiency, Finance Minister Sadakazu Tanigaki told reporters yesterday.

The drop in bonds may also be limited as 10-year yields at more than a one-year high may lure investors.

Dai-ichi Mutual Life Insurance Co., Japan's second-largest life insurer by assets, today said it will increase purchases of Japanese government bonds, maturing in 10 years or longer, in the next six months.

U.S. 10-year Treasury notes fell for a third week as a government report showed consumer prices rose the most in 25 years and the Federal Reserve signaled interest rates will keep moving higher.

``Ten-year yields are likely to rise,'' said Tokyo-based Jun Ishii, chief fixed-income strategist at Mitsubishi UFJ Securities Co., part of Mitsubishi UFJ Financial Group Inc. ``A gain in U.S. yields is increasingly putting upward pressure on yields in Japan.''

Thirty-Year Auction

Ten-year yields in Japan may increase to 1.59 percent today, Ishii said.

Bonds also fell on speculation some investors will trim holdings to raise cash for a 30-year auction tomorrow.

The government will sell 500 billion yen ($4.39 billion) of bonds, the third of four sales of this maturity for the fiscal year that ends March 31. Some traders and investors typically cut holdings in case prices fall during an auction and then buy the securities back after the sale.

``There will be downward pressure on bonds ahead of the auction,'' said Yamazaki at DLIBJ Asset Management.

Ten-year bond futures for December delivery declined 0.22 to 136.58 on the Tokyo Stock Exchange.

To contact the reporter on this story: Issei Morita in Tokyo at imorita@bloomberg.net.

Last Updated: October 17, 2005 01:06 EDT