Japan Life Insurer With $210 Billion Is Wary on U.S. Treasuries

  • ‘We can’t buy U.S. Treasuries’: Sumitomo Life’s Takahashi
  • Hedging costs have more than doubled from a year ago

It’s not just Bill Gross and Jeffrey Gundlach -- one of Japan’s biggest institutional investors is also becoming cautious on U.S. Treasuries.

Sumitomo Life Insurance Co. plans to add mainly corporate and mortgage debt in the U.S., while avoiding government bonds in the country because of rising hedging costs and lower sovereign yields.

Japan’s fourth-biggest life insurer with about $210 billion in assets cut its forecast for 10-year Treasury yield, expecting it to trade between 1.2 percent to 1.7 percent over the next six months, according to Yoshimichi Takahashi, manager of the firm’s foreign fixed-income investment section. The insurer in April estimated the benchmark yield to trade between 1.4 percent and 2.6 percent in the 12 months through March 2017. The debt yielded 1.4675 percent on Thursday in Tokyo.

Japanese investors are being forced to seek higher returns elsewhere as the Bank of Japan’s negative-interest rate policy pushes yields for domestic sovereign up to 15 years below zero. That’s coinciding with the recent rally in Treasuries that sent yields to record lows after the U.K. referendum to leave the European Union fueled demand for the relative safety of U.S. debt, prompting global investors including Gross and Gundlach to warn on the risk for holding the securities.

‘Can’t Buy’

“We can’t buy U.S. Treasuries,” Takahashi said in an interview in Tokyo on July 12. “As the dollar-funding costs have been rising, we need to buy something that has a spread over Treasuries, which leaves us with corporate and mortgage bonds.”

The yen has strengthened more than 15 percent this year to about 104 per dollar, making it the best-performing Group of 10 currency. Sumitomo Life expects the currency to trade in the range of about 98 and 108 against the dollar over the next three months, compared with April’s 100-125 range forecast for this fiscal year, Takahashi said.

With an expanding interest-rate gap between the U.S. and Japan, and growing dollar demand in the Asian nation, the cost to guard against dollar-yen fluctuations has been increasing. The hedging cost using three-month forward for one year is currently about 1.4 percent, compared with 0.5 percent a year ago, according to calculations by Bloomberg.

Gundlach, Gross

DoubleLine Capital LP’s Chief Executive Officer Gundlach said in a webcast Tuesday there’s a “mass psychosis” among investors seeking yield. “Call me old-fashioned, but I don’t like investments where if you’re right you don’t make any money, ” he said. Janus Capital Management’s Gross said low yields “are not up my alley,” on Bloomberg Television last week.

“With rising hedging costs, U.S. Treasuries now don’t provide much returns, prompting investors to shift to non-sovereign debt,” Kazuya Sugiura, president and chief executive officer of PineBridge Investments Japan Co., said in an interview in Tokyo on July 13. “However, such money flows are boosting their volatility significantly, making it hard to see stable returns in the credit market.”

Sumitomo Life expects the Federal Reserve to increase its benchmark interest rate in December at the earliest and remains cautious about further rate hikes, Takahashi said. Futures signal 31 percent odds that the Federal Reserve will raise interest rates this year, from 76 percent at the start of June.

Excess Liquidity

“Japan and Europe will continue easy monetary policy and then, those excess liquidity will continue to flow into the U.S. notes,” Takahashi said. “So, interest rates are unlikely to rise much.”

The company plans to fully hedge its investments in the euro zone because it is bearish on the euro, Takahashi said, citing speculation of additional easing by the European Central Bank. Sumitomo does not plan to add investments in the U.K., he said.

For the overseas bond positions without the currency hedges, Sumitomo Life uses options to protect against the stronger yen. However, it may consider increasing the currency exposure should the yen rise significantly beyond 100 per dollar toward the year-end, Takahashi said.

The insurer added investments in credit as well as New Zealand and Mexican bonds as part of expanding investment options last fiscal year, he said.

“We have not considered investing in emerging markets so far, but we are considering them as an option” to seek better returns, Takahashi said.

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