Andy Mukherjee is a Bloomberg Gadfly columnist covering industrial companies and financial services. He previously was a columnist for Reuters Breakingviews. He has also worked for the Straits Times, ET NOW and Bloomberg News.

There's nothing to set bank investor pulses racing like when pancake-flat bond yields start to grow a spine.

That's just what's happening in Japan. Over the past two months, an index of Japanese banks has risen 28 percent -- with just one of the 87 lenders posting a small share-price decline.

On Fire
An index of 87 Japanese lenders has gained almost 30 percent over the past two months
Source: Bloomberg

Supporting the rally is a steepening yield curve. While returns for shorter-dated bills remain stuck well below zero, securities maturing in 10 to 40 years have witnessed jumps of between 24 and 54 basis points. For the first time since Japan's embrace of negative interest rates seven months ago, the benchmark 10-year yield is about to pop its head above zero. Such firming is giving rise to hopes that banks may be able to borrow cheaply and lend at higher rates, boosting profits.

Shaping Up Nicely
A steepening yield curve has given rise to hopes banks may be able to borrow cheaply and lend at higher rates

Whether those expectations will be met depends on the much-awaited review of the Bank of Japan's policy toolkit. Governor Haruhiko Kuroda's comments earlier this week that the central bank's negative interest rate policy has had "an impact on financial markets' liquidity and financial institutions' profits" has kindled expectations the BOJ probably won't drag the rate it pays lenders on excess reserves deeper into sub-zero terrain.

Banks would rejoice if Kuroda saw the folly of his campaign. Naohiko Baba, Goldman Sachs's chief Japan economist, believes the monetary authority will curb purchases of long-maturity bonds. That bet, were it to prove right, could cause yields at the far end to rise even further, giving lenders more opportunity to earn a decent spread.

It shouldn't be too difficult to make money. Short-term rates aren't going back above zero any time soon because they're still a profit pump for foreigners. As long as the BOJ keeps markets awash in liquidity, global investors will find it attractive to buy Japanese assets with borrowed yen. Coupled with the central bank's purchases, foreign buying should keep a lid on short-term yields, assuring local lenders of cheap funding.

Foreign Attraction
Additional annual yield in basis points when global investors swap their currency to borrow yen and buy 3-month Japanese government bills
Source: Bloomberg

The unhappiness with negative interest rates that was plaguing Japanese banks just two months ago hasn't entirely gone away. Shares of the big three -- Mizuho, Mitsubishi UFJ and Sumitomo Mitsui -- are still down between 20 percent and 25 percent from the end of last year.

Still, shape-shifting yields have been a big relief. The entire curve jumping higher would have been something else altogether, considering it would have caused mark-to-market losses on banks' $880 billion inventory of government bonds. Just the far end showing some spine is a sight lenders find endearing.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Andy Mukherjee in Singapore at

To contact the editor responsible for this story:
Katrina Nicholas at