Recession Risk Plus Election Equals Higher Yields: Japan Credit

Recession Risk Plus Election Equals Higher Yields
People walk along a street as store signs light up at night in Tokyo, Japan. Photographer: Noriko Hayashi/Bloom

Japan’s worst economic contraction since early 2011 will raise rather than lower benchmark bond yields, primary dealers say, as politicians jostling for power increase fiscal spending in the world’s largest debtor.

The 10-year rate, now at 0.73 percent and hovering above a nine-year low, may climb to 0.875 percent by the end of March, according to the median forecast compiled by Bloomberg News of 14 primary dealers obliged to bid at government auctions including Citigroup Inc. and Barclays Plc. Similar-maturity Treasury yields are projected to rise to 1.88 percent from 1.61 percent, data compiled by Bloomberg show.

The opposition Liberal Democratic Party, whose support exceeds Prime Minister Yoshihiko Noda’s before elections that may be held next month, is calling for more government stimulus spending that could add to the nation’s 983 trillion yen ($12 trillion) in debt, putting upward pressure on yields. Economists expect Japan’s gross domestic product to shrink this quarter after contracting in the previous three months, leading to the third technical recession since 2008.

“A change in administration is likely to result in more reflationary policies, including more public works that come with increased issuance of bonds,” said Eiji Dohke, the chief Japanese government bond strategist in Tokyo at Citigroup, who expects the 10-year yield to rise to 1.1 percent. “I suppose 90 percent of people in markets think the LDP will become the ruling party if elections are held.”

‘Grim’ GDP

Japan’s GDP fell an annualized 3.5 percent last quarter, the most since the earthquake and tsunami in early 2011, Cabinet Office data showed yesterday in Tokyo. Exports to Asia, Europe and the U.S. all slid, as did capital spending, according to the government agency.

The GDP figures were “grim,” Noda said in parliament yesterday. Economic output will probably shrink 0.4 percent in the current three-month period, according to the median projection of 24 economists surveyed by Bloomberg News, meeting the technical definition of recession of two-straight quarters of contraction.

Forecasts for Japan’s 10-year bond yield in March ranged from 0.5 percent to 1.1 percent, according to the survey Bloomberg News conducted yesterday after the release of the GDP data. Fourteen responses were collected from a total of 25 primary dealers.

Yields on the benchmark securities touched 0.72 percent on July 23, the lowest since June 2003. The rate was 88 basis points less than yields on similar maturity U.S. Treasuries on Nov. 9, compared with 99 basis points a year earlier. One basis point is 0.01 percentage point.

Morinaga Bonds

Elsewhere in Japan’s credit markets, Morinaga & Co. hired banks for a 10 billion yen sale of five-year notes, according to a statement yesterday from SMBC Nikko Securities Inc., which will manage the deal with Mitsubishi UFJ Morgan Stanley Securities Co. The offering will be the first by the Tokyo-based confectionery maker since 1995, data compiled by Bloomberg show.

Japan Expressway Holding & Debt Repayment Agency offered 30 billion yen of 1.944 percent, 30-year securities, SMBC Nikko said in a statement.

The extra yield that investors demand to own Japanese corporate bonds instead of sovereign debt has climbed 6 basis points this month to 49 basis points as of yesterday, according to Bank of America Merrill Lynch index data. The spread for company notes worldwide has risen 3 to 157, the data show.

Exporter Earnings

The yen traded at 79.29 per dollar as of 1:15 p.m. in Tokyo, 12 percent stronger than the five-year average and compared with the all-time high of 75.35 reached a year earlier. The currency’s strength is weighing on exporters’ earnings by reducing repatriated profits and making their products more expensive abroad.

Sharp Corp. and Panasonic Corp. expect to lose a combined 1.2 trillion yen in the fiscal year ending March, while Hitachi Construction Machinery Co. and Nissan Motor Co. cut their full-year profit forecasts and cosmetics company Shiseido Co. plans to cut costs.

Bank of Japan Governor Masaaki Shirakawa said yesterday it’s necessary to watch whether the yen’s appreciation leads to a decline in corporate profits and a deterioration in business sentiment.

BOJ Stimulus

His BOJ board last month increased by 11 trillion yen to 66 trillion yen a fund that buys assets, including government and corporate debt maturing in three years or shorter. Sovereign notes with these maturities all yield around 0.1 percent.

“The BOJ may have to extend the maturity of the bonds it buys to five years sometime in the first quarter next year,” said Shogo Fujita, the chief Japanese bond strategist in Tokyo at Bank of America Merrill Lynch, who expects 10-year yields to fall to 0.65 percent by the end of March. “Once it happens, five-year yields will fall toward 0.1 percent and 10-year rates to below 0.7 percent.”

The Finance Ministry’s auction of 2.3 trillion yen of five-year notes attracted bids valued at 4.96 times the amount on offer, ministry data show. While the ratio was below last month’s 5.51 times, it exceeded the average 3.85 times in the previous 10 sales. Five-year yields were 0.195 percent today.

The economic slowdown threatens Noda’s plan to rein in Japan’s public debt, which the International Monetary Fund estimates will rise to to 250 percent of GDP in 2017 from 237 percent this year. Legislation passed in August to raise the sales tax to 8 percent in April 2014 and to 10 percent in 2015 allows the increase to be canceled based on an assessment of economic conditions.

Tax Doubts

“Bond market players may start to discount the probability of a tax rise in 2014,” which could destabilize the Japanese government bond market, said Hiromichi Shirakawa, chief Japan economist at Credit Suisse Group AG in Tokyo and a former BOJ official.

The bond market has shown few signs so far of concern about Japan’s fiscal health. The cost to insure the nation’s sovereign bonds was at 68.1 basis points yesterday, after falling to 67.6 on Nov. 9, the least since Sept. 13, according to CMA, which is owned by McGraw-Hill Cos. and compiles prices quoted by dealers in the privately negotiated market.

The LDP advocates infrastructure investments to mitigate the impacts of natural disasters, according to an economic revival plan posted on its website. Its leader, former prime minister Shinzo Abe, said the BOJ should continue monetary easing until inflation rises to 3 percent, Reuters reported on Nov. 7, citing remarks made by Abe to a gathering of business executives. The BOJ’s goal is 1 percent inflation.

Deflation Signs

Japan’s consumer prices excluding fresh food fell 0.1 percent in September. They have never risen by more than 3 percent since 1991. The GDP deflator, a measure of price changes across the economy, fell 0.7 percent last quarter from the same period of 2011, yesterday’s data showed.

Noda’s disapproval rating rose five percentage points to 64 percent, the highest since he took office in September 2011, an Asahi newspaper poll published today showed. The LDP’s approval rating at 32 percent was double that of the ruling Democratic Party of Japan, a Nikkei newspaper poll showed Oct. 29.

The prime minister reached a deal with the opposition in August to raise the nation’s sales tax rate in return for promising to call elections “soon,” though he’s not legally obligated to until next August.

Deal Reached

Akira Amari, policy chief for the LDP, said today a deal was reached with the DPJ to end the budget standoff, paving the way for elections. Noda plans to dissolve the lower house of parliament by the end of this year and may hold elections as early as Dec. 16, the Nikkei reported, without citing anyone.

“I expect reflationary policies to be introduced after a possible change in administrations around the beginning of next year, and that will lift stocks and bond yields,” said Hidenori Suezawa, Tokyo-based chief strategist at SMBC Nikko Securities, who forecasts the 10-year yield will rise to 1 percent by the end of March. “The reflationary policies are likely to include more easing by the BOJ.”

Forecast Table *T ================================================================ Company Strategist 3/13 ================================================================ Barclays Noriatsu Tanji 0.7% BofA Merrill Lynch Shogo Fujita 0.65% Citigroup Eiji Dohke 1.1% Daiwa Securities Toru Yamamoto 0.9% Deutsche Securities Makoto Yamashita 1.0% JPMorgan Takafumi Yamawaki 0.7% MUFJ Morgan Stanley Naomi Muguruma 0.9% Mizuho Corporate Bank Atsushi Arai 0.8% Mizuho Investors   Akihiko Inoue 0.9% Okasan Securities Makoto Suzuki 0.85% RBS Securities Akito Fukunaga 0.95% SMBC Nikko Securities Hidenori Suezawa 1.0% Societe Generale Takuma Sugawara 0.8% Tokai Tokyo Securities Kazuhiko Sano 0.5%

Median: 0.875% Average: 0.84%

NOTE: Credit Suisse is considering lowering its yield forecasts after the release of the GDP data, said Tomohiro Miyasaka, Tokyo-based director for fixed-income research. ================================================================ *


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