The moribund Japanese government bond market is coming to life, and that’s not necessarily a good thing depending on your perspective.
JGB futures plunged the most in years on Tuesday following a dastardly 10-year auction that drew the lowest bid-to-cover since 2016.
The tumble in futures (which logged the largest one-day drop since August 2, 2016) was made worse by the triggering of emergency margin calls. Yields surged by as much as 7bps at one juncture to -0.145%, the “highest” (which is always a relative term when you’re talking about DM bond yields these days) since August 1. JGBs were already coming off their worst month in three years.
Tuesday’s action underscores the “tantrum” risk for the BoJ, which is paring purchases in a bid to steepen the curve. The central bank cut purchases for four maturities on Monday.
Late last month, they lowered buying across three buckets at once, marking the first time policymakers had simultaneously cut purchases in a trio of maturity segments since the introduction of yield-curve control.
It now looks like the bank may cancel some buying operations if that’s what it takes to steepen the curve. “We think it’s possible going forward that the BoJ may even sell long-dated bonds to maintain the steepening”, Nomura’s Charlie McElligott said Tuesday. He called today’s JGB auction “horrific”.
A great little analysis by Bloomberg Economics shows that at the current clip, the BoJ would take around 5 trillion yen of JGBs next year, which BE’s Yuki Masujima notes is “less than the 6 trillion yen annual target for the BOJ’s purchases of equity exchange-traded funds”.
This is being exacerbated by GPIF’s decision to consider FX-hedged foreign debt as similar to domestic bond holdings. The move opens the door to more purchases of foreign bonds by the world’s largest pension fund. The GPIF headlines “add to speculation of outright rotation out of JGBs”, McElligott said.
“There could be many funds following GPIF’s allocation change”, MUFG’s Takahiro Sekido, a former BOJ official, told Bloomberg on Tuesday. “Japanese bonds have reached the point where it’s almost impossible to buy”.
Needless to say, this is spilling over into developed market bonds globally. 30-year US yields, for instance, are higher by 7bps.
“The BoJ efforts to steepen the JGB curve are bleeding into a global curve steepening, as the long-end trades poorly”, Nomura’s McElligott remarked in an early morning note. “We saw ‘limit down’ hit in WN contracts, as the market also notes large EGB supply Thursday as an overhang, with the China and Hong Kong holiday further adding to an ugly liquidity backdrop and ‘gappy’ trading conditions”.