February 3, 2017

Japanese Bond Yields Surge, Yen Spikes As Kuroda Disappoints Market: "The Market Will Test The BOJ"

One week ago, yields on the Japanese 10Y JGB tumbled when the BOJ relented, and succumbed to market demands to expand its debt monetization, when it increased the size of its daily bond purchase operation, or POMO in NY Fed parlance, in the 5-10 year zone from JPY410BN to JPY450BN, which sent yields tumbling as market participants assumed the BOJ would chase every uptick in yields with progressively greater bond purchases. The day before, on January 25, the BOJ upset market expectations as it held off on the purchase of JGBs with maturities of more 1-3 three years and 3-5 years. Two days later, however, it increased the purchase of JGBs with maturities in the 5-10 year zone by 40 billion yen from the previously known amount, to 450 billion yen.

The unexpected moves aroused speculation as to whether the BOJ is preparing to taper its quantitative easing program. With market participants split in their views on the BOJ's stance on monetary easing, yields on JGBs fluctuated wildly.

Fast forward to Friday, when on the previous day the 10Y JGB blew out to 0.10%, the highest yield since the JGB unviled NIRP one year ago, and prompted a fresh round of speculation whether the BOJ would again increase the amount of debt it purchased.  It did not, and as a result Japan’s 10-year yield surged as traders judged the central bank’s expanded bond purchases Friday to be insufficient to cap borrowing costs as global rates continued rising and steepening around the globe.

The 10Y yield rose as much as 4 bps to 0.15%, the highest since January of 2016, while the yield on the 20-year bond also climbed three basis points to 0.720%.

What is surprising is that the BOJ did increase purchases for bonds due in 5-to-10 years to 450 billion yen ($4 billion), from 410 billion yen planned for the first operation this month. However, since 450 billion is what the BOJ did last week when 10Y yields were lower, the market was clearly hoping for even more.  Furthermore, instead of purchasing bonds in the longer duration 10Y+ bucket, the central bank instead picked shorter maturities at 1Y, hinting there may be a scarcity in long-dated supply, arguably the stuff of Kuroda's nightmares.

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