Volatility Burst Halts Rally as Bond Yields Double: Japan Credit

Japanese government bond yields surged above Germany’s for the first time in at least two decades as accelerating price swings underscore concern central bank debt purchases are distorting markets.

Historical volatility on JGBs jumped to the highest since April 2013 on Feb. 3 as benchmark yields doubled since reaching a record low on Jan. 20. An auction of 30-year bonds on Thursday met the weakest demand since October after a sale of 10-year debt earlier this week had its worst result in 19 months.

Bank of Japan Governor Haruhiko Kuroda’s pledge to boost inflation to 2 percent through unprecedented bond purchases is shrinking trade in a market in which the central bank already owns more than 20 percent of outstanding debt. Japan’s reign as the issuer of the world’s lowest yielding sovereign notes after Switzerland ended this week as investors blamed widening bond price fluctuations for Tuesday’s weak benchmark offering.

“There are signs that the stabilizing effects of the BOJ’s bond-buying program are starting to fade,” Nicholas Spiro, managing director of Spiro Sovereign Strategy in London, wrote by e-mail. “Yields came down too far and too fast, resulting in an inevitable burst of volatility.”

Japan’s 10-year bond yield climbed to as high as 0.4 percent on Thursday, the most since Dec. 12, after jumping seven basis points on Feb. 3 in the biggest gain since May 2013. Ten-year German yields were at 0.37 percent on Wednesday.

Global Swings

Historical 10-day volatility for an index tracking Japanese government bonds with maturities over one year surged to 6 percent on Feb. 3, a figure that’s more than 10 times last year’s low of 0.5 percent in June, when it was below the U.S. and Europe. The gauge was 7.1 percent for Treasuries and 2.3 percent for euro government debt on Thursday.

Wider JGB swings threaten to drive up yields as Prime Minister Shinzo Abe’s government plans to boost issuance of 40-and 30-year bonds. Thursday’s auction of 600 billion yen ($5.1 billion) in 30-year debt had a bid-to-cover ratio of 2.67, down from 3.57 at last month’s sale and the lowest since 2.59 on Oct. 15. The ratio gauges demand by comparing total bids with the amount of debt offered.

The auction’s tail, a measure of market consensus based on the gap between the average and low price, was the longest since April 2013, the month the BOJ started record easing.

Auction Concerns

Japan’s 2.4 trillion yen sale of 10-year debt on Feb. 3 had a bid-to-cover ratio of 2.68, down from 3.42 last month. The average ratio for the past 10 offerings was 3.7.

“The 10-year auction result stirs caution, and yield levels for super-long maturities are not yet appealing to institutional investors,” said Souichi Takeyama, Tokyo-based rates strategist at SMBC Nikko Securities Inc. “Major buyers of super-long maturities were pushed out as the BOJ’s additional stimulus compressed the overall yield curve.”

Kuroda said in parliament Wednesday that he doesn’t believe liquidity in the JGB market has particularly fallen. The BOJ is buying as much as 12 trillion yen of JGBs each month, which is more than 90 percent of debt offered to investors. The central bank has said it will keep its easing policy until inflation reaches its goal of 2 percent.

Yusuke Ikawa, a strategist at UBS Group AG in Tokyo, said the BOJ’s purchases are making it harder for some dealers to meet settlement deadlines because they can’t find certain bonds.

“Tightening supplies in the JGB market are behind this phenomenon, which is likely to persist until the BOJ changes its current buying policy,” Ikawa said.

Kuroda conceded last month that the timing of achieving the target could be pushed back depending on oil costs. Consumer price inflation, excluding the effect of a sales-tax increase last April, was 0.5 percent as of December.

Japan’s 30-year yield reached 1.465 percent, the most since Nov. 18, before Thursday’s auction results were released. The yield was at 1.39 percent as of 1:20 p.m. in Tokyo.

“Yields are coming back but not enough to lure back institutional investors,” said Naomi Muguruma, a Tokyo-based economist at Mitsubishi UFJ Morgan Stanley Securities Co.

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