Bank of Japan’s Policy Shift (Ending Yield-Curve Control) Will Prompt It To Sell Massive U.S. Debt Holdings #GotBitcoin
Their big worry is any change in policy that causes Japanese investors to not just stop buying foreign bonds but also sell them outright, causing a substantial and abrupt increase in global bond yields. Bank of Japan’s Policy Shift (Ending Yield-Curve Control) Will Prompt It To Sell Massive U.S. Debt Holdings #GotBitcoin
That in turn could drag down U.S. stocks, since higher bond yields push up borrowing costs and, all else equal, reduce the incentive to own riskier assets.
Some see potential global ramifications if a change in monetary policy at BOJ leads Japanese investors to stop buying U.S. Treasurys.
The Bank of Japan made an important change to its monetary policy on Friday, signaling that it would tolerate higher yields on longer-term Japanese government bonds.
The bank said that a 0.5% cap on 10-year government bond yield was now a suggestion, not a rigid limit, and that the new hard cap was 1%.
Reactions To Bank Of Japan’s Monetary Policy Decision
The Bank of Japan maintained ultra-low interest rates on Friday but took steps to make its yield curve control policy more flexible, underscoring growing concerns over the rising side- effects of prolonged monetary easing.
At the two-day meeting that ended on Friday, the central bank kept unchanged its short-term interest rate target at -0.1% and that for the 10-year government bond yield around 0%.
It also maintained guidance allowing the 10-year yield to move 0.5% around the 0% target, but said those would be “references” rather than “rigid limits”.
In its second fixed rate purchase operation that day, it offered the bonds at 1% instead of the 0.5% level in the morning.
Reaction was volatile across asset classes. The yen initially reverses gains against the dollar to plunge as much as 1.2%, but then changed its course again to surge more than 1%.
The Nikkei share average (.N225) pared declines after reopening from the midday recess, but then extended them to slump as much as 2.6%.
The benchmark 10-year government bond yield jumped to an eight-year high of 0.575% before easing back slightly to 0.55%.
Masafumi Yamamoto, Chief Currency Strategist, Mizuho Securities, Tokyo
“The BOJ’s decision is almost exactly what the Nikkei reported earlier, so I think there was no big surprise. (The market reaction was) broadly in line with the Nikkei report, but up to 1% was not fully priced in. There’s room that 10-year JGB yield will rise further towards 1% and downward pressure on the dollar/yen may increase going forward.”
“The BOJ mentioned signs of change have been seen in price and wage setting behaviour of Japanese corporate. I think this will lead to further upward revisions on inflation, both from the market and BoJ…[and] this will lead to more changes of the YCC framework as a whole and a more hawkish BOJ as early as October of this year.”
Sally Auld, Chief Investment Officer, JB Were, Sydney
“They’ve changed it (YCC) without committing to too much and want to be more flexible about how they run monetary policy.”
“They want stuff to be able to move a little more freely … and let the market price discover and bring back fundamentals of supply and demand without being too prescriptive.”
“We’re really at the beginning of the end of really extreme monetary accommodation but they still sound very cognisant of the fact that there’s still downside risk to the economy and inflation outlook.”
Chua Soon Hock, Chief Investment Officer Of Asia Genesis Asset Management, Singapore
“The BOJ is in a difficult position. Core inflation has been consistently above 3% for more than a year. There is a realisation that inflation in Japan is not transitory. That, coupled with asset inflation in record high property prices in Tokyo and Osaka, is forcing the hands of BOJ to drop QE, as conditions for QE both domestically and globally are no longer in existence.”
“However, due to fears of a sudden spike of JGB rates, the BOJ is adopting a gradual and cautious approach to lifting rates, likely from here onwards.”
Ma Tieying, Economist, Dbs Bank，Singapore
“The Bank of Japan’s decision to modify its YCC approach suggests that it might now tolerate a 1% ceiling for the 10-year JGB yield, allowing it to fluctuate within a wider range between -0.5% and 1%.”
“This strategy is considered wiser compared to widening the yield band step by step, as it could avoid fuelling market expectations for incremental policy adjustments. After today’s decision, the likelihood of further YCC adjustments within this year has diminished, in our view.”
“Going forward, the BOJ is likely to exercise patience until mid-2024, when it will assess the need for more significant policy actions, such as a potential YCC exit. By that time, the BOJ will have access to next year’s Shunto wage data, which will provide more information about the long-term inflation outlook.”
Izuru Kato, Totan Research, Chief Economist, Tokyo
“The BOJ kept its super-loose monetary policy while modifying its excessive loose policy steps as the central bank appears not confident about the pace of growth in consumer inflation from fiscal 2024.”
“Keeping the 10-year yield at 0.5% would cause the yen to weaken, so the BOJ’s decision shows the central bank is probably conscious of the yen’s weakness.”
“The focus is how much the BOJ will actually allow the 10-year yield to move beyond 0.5%. I expect the BOJ’s guidance of allowing the 10-year yield to move 0.5% around the 0% target would gradually lose its substance.”
Carol Lye, Associate Portfolio Manager &Amp; Senior Research Analyst, Brandywine Global, Singapore
“Tweaking the 10y target band was within our expectations for some kind of change in the second half of 2023. A widening in the range at this point helps to ease off market dysfunction, at the same time allowing monetary easing in its current form to continue until the BOJ assesses that normalisation out of negative interest rate policy (NIRP) is needed.”
“The Nikkei report yesterday had led to a re-positioning in JGB shorts and stronger yen. This latest change may initially see further sell-off in 10-year JGB, but Japanese banks have been waiting on the sidelines to add to bonds. Medium-term, 10-year bond yields may not fluctuate too far from here.”
“While we expect to see YCC tweak fuelling some yen appreciation moves, some of that has been priced in since late Thursday.”
Tom Nash, Portfolio Manager, Ubs Asset Management, Sydney
“It has allowed great flexibility … in fact the hard line now seems to be 1%.”
“It is an important step towards eventual disbandment. I expect yields will gravitate towards 1% but not get there in a straight line as you’re likely to get short covering, domestic buying and the BOJ leaning against it.”
“Even though market reaction is choppy, this is a clear sign that the BOJ will take mini steps to tighten policy, if inflation pressures remain. Effectively, markets will test the 1% cap and that can be bullish for the yen, while global liquidity conditions could be impacted.”
Naomi Muguruma, Senior Market Economist, Mitsubishi UFJ Morgan Stanley Securities
“By raising the upper limit for the fixed rate operations to 1%, the BOJ effectively widened the 10-year target band, making it easier for the central bank to flexibly guide the yield target. It made a stealth move in that sense.”
“The BOJ will likely wait to see how the measures may prove effective for the time being. The central bank will determine the strength of wage growth and price trends at least until after next spring’s labour offensive gives clues on wages.”
Atsushi Takeda, Chief Economist, Itochu Economic Research Institute, Tokyo
“This was pretty much following the Nikkei report. Fundamentally, they’re keeping things unchanged, but they will allow a little variation.”
“The second this came out, the yen weakened a bit. There were expectations long-term rates might rise more and they won’t really. It’s returned to a weaker yen direction – although compared to yesterday there’s an overall yen strengthening. But I don’t think this will lead to a stronger yen. Basically the market will continue to move on U.S. long-term interest rates.”
Carlos Casanova, Senior Asia Economist, UBP, Hong Kong
“Although the BOJ left the cap unchanged at ‘around 0.50%’, the subtle changes in language suggest that they are gearing up, or at least open to, tweaking the YCC target at a future date, provided that conditions are supportive.”
“We believe that the BOJ could widen the target band by 25 basis points, to around 0.75% above or below zero, at its December meeting. However, the markets are bound to test the limit in the months ahead.”
“Therefore, we can’t exclude the possibility that this adjustment takes place sooner, in October or even September. A more substantial adjustment, like scrapping YCC, is not likely until the BOJ completes its policy review later in 2024.”
Hiroaki Muto, Economist, Sumitomo Life Insurance Co, Tokyo
“The BOJ maintained the 0.5% upper yield cap while setting the fixed-rate purchase operation target to 1.0%. The tweak was technical and the least hawkish among the options pre-conceived by the market such as widening the yield cap to 0.75%. The message of this could be even described dovish, in the way that the BOJ signalled another tweak or end of the YCC, and full-scale normalisation, won’t happen anytime soon.”
Carol Kong, Currency Strategist, Commonwealth Bank Of Australia, Sydney
“The BOJ will now regard the upper and lower bounds of the 10-year JGB trading range as ‘references, not as rigid limits’, allowing for more flexibility. But the YCC change looks purely technical. The statement continued to strike a dovish tone with the BOJ still forecasting below-target inflation in fiscal years 2024 and 2025. So, no signal of policy tightening over the forecast horizon.”
“We maintain our view the BOJ will keep its ultra-easy monetary policy settings unchanged this year, and expect USD/JPY to remain solid at 140 by the end of this quarter.”
Moh Siong Sim, Currency Strategist, Bank Of Singapore, Singapore
“By the time the decision come in, we’re not surprised given the overnight Nikkei report. It’s a step towards a policy normalisation. This is the first step in response to the rising inflation backdrop. It does look like that still they want to manage it which is why they’re not really abandoning yield curve control.”
Matt Simpson, Senior Market Analyst, City Index, Brisbane
“The BOJ seems to be stirring some confusion and that is being reflected in price action. But with the Nikkei report setting an expectation for the BOJ to discuss widening their YCC band, anything short of actually widening it comes as a bit of a disappointment. And that has seen the yen hand back some of the strength it gained following the original Nikkei report.”
“Still, it seems clear that the BOJ is setting the stage to widen and eventually abandon YCC.”
The BOJ has been an outlier among the world’s major central banks in not aggressively raising interest rates to fight inflation, and investors around the world have been closely attuned to any shifts in its unorthodox policy of actively controlling bond yields.
Here’s What Wall Street Is Watching:
What Does The Move Mean For Bond Markets?
Reports on Thursday that the BOJ would lift its yield cap initially drove down prices on U.S. Treasurys, lifting their yields. The reason: Japanese investors own over $1 trillion in U.S. Treasurys, and rising yields on Japanese bonds could attract some of that money.
Even though Japanese bonds will still offer lower yields than U.S. Treasurys, the increase could matter to Japanese investors, who already have reason to buy domestic bonds to avoid the risk of unfavorable currency moves.
Japanese investors also hold substantial amounts of non-U.S. foreign bonds, such as French government bonds, meaning any slowdown in their buying could be felt globally.
Why Are Some Analysts Worried About What Comes Next?
So far, the market impact of the BOJ’s move has been relatively modest, in part because the policy change itself wasn’t that large. However, some analysts still see it a step toward abandoning yield targets entirely, which could have larger ramifications.
How Could The Shift Hit Currency Markets?
Ultralow yields on Japanese government bonds have long provided an incentive for traders to borrow yen to buy dollars in what is widely known as a “carry trade,” weakening the yen and strengthening the dollar.
Hedge funds, however, have already started to unwind that trade this year, and that could gather steam if Japanese interest rates rise—causing the yen to rebound further against the dollar.
Could This Derail The Japanese Stock Rally?
Foreign investors have flocked to Japanese stocks this year, lured by an economy that has expanded faster than the U.S., a stock exchange that has pushed companies to improve their valuations—and a central bank pursuing a much more growth-friendly policy than others around the world. Even Warren Buffett has bought in, saying in March that his conglomerate held more shares in Japan than anywhere outside the U.S.
One upside from the BOJ’s move is that the country’s banks could make greater profits on their lending.
Nonetheless, rising yields could mean higher funding costs for Japanese firms, and would tend to lower investors’ valuations of future profits.
What Does This Mean For Growth Around The World?
The BOJ’s move is a reminder that while the Federal Reserve may be at or near the end of its interest-rate campaign, other central banks are still intent on tightening policy. The BOJ might be just starting on its journey.
In the end, the purpose of tighter monetary policy is to slow down economic activity, which could eventually drag on riskier assets around the world.
In fact, while Treasury yields initially climbed after the BOJ news, some analysts argued that the move might drag them lower over time, with slower global growth increasing the appeal of safer assets like bonds.