The $5 Trillion Quandary as Negative-Yielding Japanese Debt Doubles

  • Nearly three-quarters of JGBs offer yields at or below zero
  • Kuroda admits adverse effects of stimulus for bank earnings

The amount of Japanese government bonds in the market offering negative yields has doubled this year to more than 600 trillion yen ($5.3 trillion) and that’s a major headache for the finance industry.

After the Bank of Japan’s surprise decision on Jan. 29 to implement negative interest rates on some deposits, almost three-quarters of total JGBs would offer no returns or even burn a hole in balance sheets if bought now. The government got paid to borrow 2.2 trillion yen for a decade for the first time at an auction last week, and set a record-low 0.8 percent coupon for an auction of about 800 billion yen of 30-year securities Tuesday.

“The only thing that the BOJ has been consistent in doing is driving down yields -- and the impact has been enormous -- but it’s unclear whether that will boost inflation expectations and revive the economy,” said Yusuke Ikawa, a strategist at UBS in Tokyo. “It’s getting harder and harder for investors.”

BOJ Governor Haruhiko Kuroda said Monday he can’t deny the adverse effect on bank earnings of his stimulus, even as he reiterated it can help spur inflation to the 2 percent target. With maturities extending to 10 years offering negative yields, investors need to take ever greater risks in longer-maturity bonds. More than two-thirds of respondents in a quarterly BOJ survey last month said market functioning had deteriorated, as a gauge of volatility spiked to the highest since June 2013.

Unprecedented Yields

Ten-year note yields slid to a record minus 0.1 percent Tuesday in Tokyo, while those on 30-year bonds sank to an unprecedented 0.485 percent. The premium over two-year notes dropped to an all-time low of 69.1 basis points.

Japan sold 30-year bonds at an average yield of 0.765 percent on Tuesday, an all-time low, as a gauge of demand rose to the highest since May 2014. The 10-year note sale on March 1 had a record-low coupon of 0.1 percent, and an average yield of minus 0.024 percent.

While market participants have expressed concern over bond market functioning, the Bank for International Settlements issued a report over the weekend saying that negative interest-rate policies in use by central banks around the world have worked through their respective systems in much the same way as positive rates.

‘Anecdotal Evidence’

“The experience so far suggests that modestly negative policy rates are transmitted to money-market rates in very much the same way as positive rates are,” according to the report. “Anecdotal evidence suggests banks seek to avoid negative rates  by either extending maturities or lending to riskier counterparties.”    

Japanese loan growth slowed slightly last month and deposits accelerated -- the opposite effect sought by the central bank as it began its negative interest-rate program on Feb. 16.

Already in the final quarter of 2015, the average monthly volume of JGBs traded by dealers for clients fell to the least in BOJ data to 2004, at about 15 trillion yen.

“Yields will continue to fall and the curve will continue to flatten under pressure from negative rates and quantitative easing,” said Shuichi Ohsaki, the chief rates strategist at Bank of America Merrill Lynch in Tokyo. “Trading volumes will become even thinner. A typical bond investor probably wouldn’t want to touch this market.”

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