Oct. 31 (Bloomberg) -- An index of Japanese government bonds had the longest run of monthly losses since 1990 as the central bank said a seven-year bout of deflation will end, increasing chances it will cease a policy of pumping cash into the economy.

The combination of rising consumer prices and an end to the Bank of Japan's 4 1/2-year-old policy of holding interest rates near zero may make yields on debt less appealing and boost investment in the nation's equities. Governor Toshihiko Fukui said bond yields have risen on the improved outlook for the economy.

``Given the price forecast, the central bank looks determined to end its easy monetary policy,'' said Yuzo Nakajima, who oversees the equivalent of $265 million in Tokyo at Deutsche Asset Management (Japan) Ltd. ``Yields will continue to rise. We'd better adjust our investment strategy on that assumption.''

The bond index, including one-year to 30-year debt, has handed investors a loss of 0.2 percent this month through Oct. 28, according to Merrill Lynch & Co., set for a fourth month of declines, the longest in 15 years.

The yield on the 1.5 percent bond due in September 2015 rose 3.5 basis points to 1.545 percent as of 5:49 p.m. in Tokyo, according to Japan Bond Trading Co., the nation's largest debt broker. A basis point is 0.01 percentage point.

The price dropped 0.300 yen, or 300 yen per 100,000 yen face amount, to 99.614 yen. Ten-year benchmark bonds dropped for a fourth month, the longest stretch since February 2002.

Nakajima said he is keeping the average duration of his bond holdings below that of his benchmark, the Nomura Bond Performance index. Duration measures sensitivity to changes in interest rates, and the lower an investment's duration, the less it loses when yields rise.

Core Prices

Core consumer prices, which the central bank monitors to make policy, will rise 0.1 percent in the fiscal year ending March 2006 and 0.5 percent the following year, according to the median forecast of the bank's nine policy makers. In April, they projected core prices would fall 0.1 percent this year and increase 0.3 percent next year.

Japan's economy will probably expand 2.2 percent this and 1.8 percent in the year starting April 1, 2006, policy makers said in the twice-yearly economic outlook report.

``Yields will have a bias to rise toward next year,'' said Nobuto Yamazaki, who helps oversee the equivalent of $6.1 billion in mutual funds at DLIBJ Asset Management Co. in Tokyo. ``The economy will probably be in good enough shape to push up stocks and cement speculation about an end to deflation.''

Duration

DLIBJ Asset's Yamazaki said he is keeping the average duration of his debt holdings shorter than his benchmark, the Nomura Bond index. Ten-year yields may rise to 1.7 percent by the end of December, he said.

DLIBJ Asset is owned by Mizuho Financial Group Inc., Japan's second-largest bank by assets, and Dai-Ichi Mutual Life Insurance Co., the nation's second-biggest life insurer by assets.

The central bank in March 2001 pushed overnight loan rates between banks to near zero by increasing its target for reserves available to lenders. The bank has said it won't lift rates until consumer prices rise and show no sign of falling.

The bank earlier today voted by a 7-2 majority to keep the target for reserves it makes available to lenders at between 30 trillion yen ($259 billion) and 35 trillion yen.

Deutsche Asset's Nakajima said the central bank will lower its reserve target around April next year and may start raising interest rates in the six months starting October 2006.

Speculation about a change in monetary policy narrowed the difference in yield between short and long-maturity debt.

Gap in Yields

The gap between five- and 20-year bonds shrank to 1.24 percentage points on Oct. 21, the lowest since December 2003, according to data compiled by Bloomberg.

Declines in bonds were limited by speculation investors will buy to match a monthly change in their benchmarks.

Nomura Securities Co. in November will add to its Nomura Bond Performance Index, used by fund managers as a gauge for their portfolios, government debt sold this month including 10-, 20- and 30-year bonds and remove securities due in a year or less.

The Nomura index had a duration of 5.59 years as of Oct. 28. It will be extended by 0.08 year in November, according to the company's Web site.

The Japanese government will sell 1.9 trillion yen of 10-year bonds tomorrow. The previous sale on Oct. 4 drew bids worth 2.26 times the amount of debt sold, the least since March 2004.

Ten-year bond futures for December delivery fell 0.33 to 137.10 as of the close on the Tokyo Stock Exchange. The Nikkei 225 Stock Average gained 2 percent, the biggest increase in almost three weeks and a sixth monthly advance.

``Japanese bonds will probably find it difficult to rise given gains in stocks and the upcoming auction,'' said Kazuhiko Sano, chief strategist at Nikko Citigroup Ltd. in Tokyo, the third-largest buyer at government debt auctions.

To contact the reporter on this story: Keiko Ujikane in Tokyo at kujikane@bloomberg.net.

Last Updated: October 31, 2005 03:51 EST