Japan Taper Talk Makes Morgan Stanley Contrarian on Bond Outlook

Bank of Japan Governor Haruhiko Kuroda has at least one strategist that shares the optimism he is showing in the world’s third-largest economy.

Kenro Kawano, chief bond strategist at Morgan Stanley MUFG Securities Co. in Tokyo, says the BOJ will taper unprecedented stimulus in 2016 and 10-year sovereign bond yields will more than double over the next year. Kuroda said in Minnesota Sunday that his policies are working and Japan is making its way to “conquering deflation.”

Morgan Stanley’s view is in the minority with just four of 32 analysts predicting the BOJ can start to taper next year, and most focusing on when stimulus will be expanded, as an inflation gauge the central bank watches has slumped to zero. Kawano points to signs that wage growth will drive consumer confidence and start to lift the economy from recession.

“We now have some inflation, not deflation,” Kawano said. “With wage growth, combined with improving economic sentiment, we are forecasting a gradual recovery in the Japanese economy. Once people think about the possibility of the BOJ tapering, the market should react.”

Japan’s 10-year yield will rise to 1.25 percent by the middle of next year, Kawano said, from 0.305 percent Tuesday and a record low of 0.195 percent in January. An investor would lose about 7 percent if the forecast is correct, according to data compiled by Bloomberg.

Recovery Signs

Salaries rose for a third month in February, while unemployment was near the lowest level since 1997, based on the latest government figures. Consumer confidence is at the highest since 2013, and exports have grown for six months. Thirty-five-year home-loan rates have climbed to 1.54 percent from a record low of 1.37 percent in February.

The last time benchmark government yields were at Kawano’s target of 1.25 percent, in April 2011, the mortgage rate was 2.63 percent. The figures suggest the home-loan cost may climb about 1 percentage point over the coming year.

Kuroda reiterated on Sunday that he won’t hesitate to adjust monetary policy if needed, while saying it’s not necessary now. Inflation will pick up in the second half of the fiscal year started April 1, he said. The BOJ is boosting its sovereign bond holdings by about 80 trillion yen ($669 billion) a year, to spur growth by pumping cash into the banking system.

Yields Capped

The BOJ’s buying enough debt that there’s no reason for yields to surge, said Hiroki Shimazu, the senior market economist at SMBC Nikko Securities Inc. in Tokyo.

“The purchases have made the government yield lower than we’ve ever seen before,” Shimazu said. “There’s a possibility 10-year yields will reach zero percent or even negative” levels, he said.

A Bloomberg News survey of economists projects the yield will climb to 0.59 percent by the middle of next year. While Kawano didn’t participate, his forecast is higher than any of the respondents’ figures.

Twenty-two of 34 economists in a Bloomberg survey conducted March 31 to April 3 predict the BOJ will expand its stimulus program by the end of October.

The Abe administration picked Yukitoshi Funo, 68, a veteran executive of Toyota Motor Corp., to replace a BOJ board member who in October last year had opposed expanded monetary stimulus. He must be confirmed by both houses of parliament, where Prime Minister Shinzo Abe’s coalition holds majorities.

Yoshiyuki Suzuki, the head of fixed income at Fukoku Mutual Life Insurance Co. in Tokyo, said a lack of available bonds may help drive yields higher. The central bank’s purchases are equivalent to about 90 percent of the government’s debt sales, creating a shortage of supply.

“There’s very low liquidity,” said Suzuki. “If somebody sells, yields can jump.”

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