Bond jitters rattle Japan’s once-calm debt market

By Tom Westbrook and Rocky Swift

Singapore — Wild swings in Japanese government bonds are unsettling for investors in an asset class that has long been regarded as a stable store of value.

Nerves about Japan’s fiscal position after Prime Minister Sanae Takaichi called a snap election and promised tax cuts sent 30-year yields on a stunning one-day rise of 27 basis points on Tuesday to an all-time high of 3.88%.

The finance minister called for calm, and a rebound has followed, lowering yields. But the mood remains skittish, trade is thin and investors are on the sidelines.

Bond-buying intervention

The Bank of Japan (BoJ), which concludes a two-day meeting on Friday, has a mandate to maintain financial stability and could step in to purchase bonds on either an ad hoc or scheduled basis. That would drive up prices, which move inversely to yields.

Until 2024, the central bank was also an enormous net buyer of bonds under a policy of managing the yield curve to keep interest rates low. The BoJ came to own more than half of all Japanese government bonds in the market, which it is now trying to whittle down by scaling back purchases.

However, the bar for stepping in is likely to be very high, as the central bank has been trying to extricate itself from the bond market for years, and as any move to put a limit on yields would likely be negative for the yen, already trading near a four-decade low against the dollar.

Geopolitical risks

Under a plan laid out in July 2024, the BoJ has been slowing its monthly bond purchases by an additional ¥400bn every quarter. After trade and geopolitical risks grew last year, it decided to proceed more cautiously and slow the tapering pace to an additional ¥200bn yen from April 2026.

The central bank could delay that taper, an idea floated this week by opposition party leader and former ministry of finance official Yuichiro Tamaki.

“At some point there will be question marks as to whether the Bank of Japan can continue to run off its holdings,” said Ian Samson, a multi-asset portfolio manager at Fidelity International.

Such a step would also likely weigh on the yen.

Though all Japanese government bonds have been sold off recently, the longer tenors have suffered most as investors demanded higher returns to hold the debt for longer, steepening the yield curve.

The BoJ could run a local version of a US Federal Reserve strategy dubbed “Operation Twist”. First used in the 1960s and again in 2011, the US central bank sold shorter-dated Treasuries and used the cash to buy longer-term bonds.

Weak demand

Japan’s super-long-term bonds have traditionally been soaked up by life insurers and other institutional buyers, but their overall demand is on a declining trend. The government could cut back on its auctions of the debt to try to reset the supply-demand balance.

Weak demand at auctions of longer-term sovereign bonds in May and June last year prompted the ministry of finance to curtail sales. And in crafting its latest budget, the government cut back its reliance on super-long debt, planning its lowest issuance in 17 years.

Japan’s Government Pension Investment Fund (GPIF) is the world’s largest public pension pool, with about ¥260-trillion in assets.

“GPIF currently holds around $400bn of foreign bonds, and a change in allocation there would send a strong signal for the start of a Japanese repatriation theme,” said Brent Donnelly, founder of research and FX firm Spectra Markets.

“This would be enormously bullish for JGBs [government bonds] and JPY at the same time, so if GPIF makes an announcement of this sort, get on board quickly. The lifers will follow, and it will be a trend that could last a year or more.”