Japan's Bonds Fall as Ozawa Spending Concerns Damp Demand at 10-Year Sale

Japanese bonds fell, pushing 10-year yields back over 1 percent, as demand for debt waned at an auction today and on speculation a government led by Ichiro Ozawa would increase debt-fueled spending programs.

Longer-maturity bonds led declines as bids dropped relative to the amount on offer at a sale of 10-year securities, the last before a Sept. 14 party election pitting Ozawa against Prime Minister Naoto Kan. Bond futures slid from near a seven-year high after data showing growth in Chinese manufacturing and the Australian economy spurred gains in stocks.

“What’s behind this weak auction result is Ozawa’s candidacy and concern his administration would adopt an aggressive fiscal policy, resulting in an increase in the supply of bonds,” said Susumu Kato, the Tokyo-based chief economist for Japan at Credit Agricole CIB and CLSA. “We have to take account of the possibility he’ll become prime minister.”

The yield on the benchmark 10-year bond climbed 3.5 basis points to 1.01 percent as of 1:26 p.m. at Japan Bond Trading Co., the nation’s largest interdealer debt broker. The 1.1 percent security due June 2020 declined 0.316 yen to 100.801 yen.

Ten-year bond futures for September delivery dropped 0.41 to 142.58 at the Tokyo Stock Exchange. The contracts climbed to 143.14 on Aug. 25, the highest level since June 2003.

Today’s 2.2 trillion yen ($26 billion) auction of 10-year bonds drew bids valued at 3.16 times the amount on offer, compared with a so-called bid-to-cover ratio of 4.18 in August.

Government Spending

Kan rejected a closed-door effort to appease his party’s largest faction, forcing a contest with Ozawa for the Democratic Party of Japan leadership. Ozawa, a former party leader, pledges to increase a monthly childcare allowance from 13,000 yen, according to his manifesto released today. The winner of the ballot is ensured of being prime minister because the DPJ controls the lower house.

“Ozawa is seen to favor aggressive government spending, and his candidacy has reminded investors of possible worsening of the government’s finances,” Shinji Nomura, chief debt strategist in Tokyo at Nikko Cordial Securities Inc., wrote in a report today. “This isn’t a temporary theme but a serious issue.”

Bonds also fell after a Chinese government report showed manufacturing improved in August. China was Japan’s biggest export market by the value of products shipped during the first half of 2010, according to the Ministry of Finance. An Australian government report showed the nation’s economy grew in the second quarter at the fastest pace in three years.

The Nikkei 225 Stock Average reversed an earlier loss, gaining 1.2 percent.

“More and more people are coming to think China’s economy won’t decelerate as much as they’d previously feared,” said Masaru Hamasaki, chief strategist at Tokyo-based Toyota Asset Management Co., which oversees about $15 billion in assets. “Expectations are still there that demand in China will bolster the Japanese economy.”

To contact the reporter on this story: Masaki Kondo in Tokyo at mkondo3@bloomberg.net.

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