Japan Bonds Fall for Third Week on Producer Prices, Ozawa's Leadership Bid

Japanese bonds completed a third weekly loss after data showed producer prices avoided declines for a second month and on prospects debt issuance will increase under a government led by Ichiro Ozawa.

Bonds also dropped after the government said Japan’s economy grew at a faster pace in the second quarter than initially estimated, and U.S. data showed the trade deficit narrowed and filings for jobless benefits declined.Ozawa is challenging Prime Minister Naoto Kan at the ruling party’s leadership election on Sept. 14.

“The report on producer prices reflects resilience in the commodity market, which may spur expectations that deflationary pressures will ease,” said Ayako Sera, a strategist who helps oversee $310 billion at Sumitomo Trust & Banking Co. in Tokyo.

The yield on the five-year note increased 3.5 basis points to 0.345 percent last week in Tokyo at Japan Bond Trading Co., the nation’s largest interdealer debt broker. The 0.3 percent security due June 2015 fell 0.163 yen to 99.789 yen. Benchmark 10-year yields rose half a basis point to 1.15 percent.

Ten-year futures for December delivery slid 0.43 to 141.23 at the Tokyo Stock Exchange.

Bonds declined after the central bank said yesterday that producer prices were unchanged in August from a year earlier, compared with economists’ predictions for a 0.2 percent drop. Deflation, a general drop in prices, enhances the purchasing power of the fixed payments from debt.

Japan’s GDP

Japan’s gross domestic product increased an annual 1.5 percent in the second quarter, more than the 0.4 percent expansion in preliminary figures reported last month, the Cabinet Office said on Sept. 10. The U.S. trade deficit shrank 14 percent in July, the most since February 2009, and new applications for unemployment insurance fell to the lowest since July 9, government reports showed.

Shorter-maturity notes led declines after demand at a 2.4 trillion yen ($29 billion) auction of five-year debt fell to the lowest since October.

Investors submitted bids for 2.79 times the amount of five- year notes on sale on Sept. 10, down from 4.68 at the prior auction on Aug. 11. The so-called tail, the difference between the lowest and the average price, was 0.04 yen, the biggest since October. The longer the tail, the less bids are clustered around the average price.

Bank Collapse

The decline in bonds was tempered as Incubator Bank of Japan Ltd. declared bankruptcy, triggering the government’s 10 million yen government deposit insurance cap for the first time in 40 years.

The closely held, small-business lender has about 3,300 depositors with more than 10 million yen, Financial Services Minister Shozaburo Jimi said at a press conference yesterday.

“I’m paying close attention to whether the bankruptcy of Incubator Bank will trigger concern about Japan’s financial system among overseas investors” and spur demand for bonds, Sumitomo’s Sera said.

Yields jumped almost a third of a percentage point to as high as 1.195 percent in the weeks following Ozawa’s Aug. 26 announcement that he would challenge Kan.

“The ‘Ozawa shock’ prompted a rush of bond selling, causing yields to surge at an unexpected pace,” said Satoshi Yamada, fixed-income trading manager in Tokyo at Okasan Asset Management Co.

Ozawa, who heads the Democratic Party of Japan’s largest faction, has pledged to double a monthly childcare allowance and extend the period of subsidies for energy-efficient household appliances. The winner is assured of being prime minister because the DPJ controls the lower house.

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

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