Japan’s dysfunctional bond market is not only inverted between three month and eight years, it also sports negative yields out to 10 years.
The yield curve also inverts between 30 and 40 years, albeit in positive territory.
Inverted means longer-dated bonds yield less than shorter-dated bonds.
“It wouldn’t be surprising to see some BOJ operations fail,” said Yusuke Ikawa, a salesperson at UBS Group AG’s Knowledge Network in Tokyo. “The biggest risk of that is in superlong bonds.”
The above quote from an excellent Bloomberg article entitled Japan’s Bond Market Is Close to Breaking Point.
Signs of stress are multiplying in Japan’s government bond market, which is crumbling under pressure from the central bank’s unprecedented asset-purchase program and negative interest rates.
As buyers hang on to debt offering interest returns, the BOJ is finding it harder to press on with bond purchases of as much as 12 trillion yen ($107 billion) a month, sparking sudden price swings leading to yield curve inversions that have nothing to do with economic fundamentals.
[Highlights in purple by Mish]
Yields on 40-year JGBs dipped below those on 30-year securities Tuesday, and a BOJ operation to buy long-term notes last week met the lowest investor participation on record. Bond market functionality has deteriorated, with 41 percent of respondents last month rating it as “low,” the highest proportion since the BOJ began the quarterly survey more than a year ago.
Demand for JGBs has increased so much since the start of negative-rate policy that it’s flipped the market for repurchase agreements on its head: Dealers who in normal circumstances would pay to borrow overnight cash in the repo market — offering debt as surety of repayment — are instead willing to pay to get access to the collateral.
The BOJ has already cornered close to a third of the JGB market, more than any other class of investor. That proportion will grow as asset purchases continue — even without an expansion of easing.
The central bank is also buying negative-yielding bonds in the market, which has an overwhelming majority of the world’s sub-zero debt.
The market disruptions raise concerns that the BOJ is nearing the limits of its stimulus, even as Kuroda has said the central bank can do more. There are also questions over whether, if the central bank is forced to exit prematurely, the market can withstand the potential shock.
“How can the BOJ head for the exit?” Dan Fuss, vice chairman of Loomis Sayles & Co., said at an event in Tokyo last week. “If they open the exit door, there’s a fire on the other side.”
Fire on the Other Side
I commend Bloomberg writers Kevin Buckland, Shigeki Nozawa, and Wes Goodman for a noteworthy article accompanied with excellent charts.
The only thing worth quibbling over is the title. I repeated a portion of their title simply because it sounds better.
Japan’s bond market is not “close to the breaking point”; rather, it’s clearly broken.
Alleged Bond Shortage
I last spoke of this troubled mess on March 18 in Alleged “Bond Shortage” as Japan Cruises Towards One “Quadrillion” Yen of Negative-Yielding Bonds
Twilight Zone Central Banking
There’s 600 trillion yen ($5.4 trillion) in negative-yield Japanese bonds right now. At the current pace, we will easily see our first quadrillion in negative yielding bonds by the end of the year.
One quadrillion is 1,000 trillion.
Only in the Twilight Zone would one expect to find close to a quadrillion in negative yielding bonds with the yield curve inverted on top of that. Yet, here we are.
A currency crisis of some sort awaits.
Mike “Mish” Shedlock