Breaking News: Japanese Investors Show Massive Interest in US Bonds

Japanese investors are making waves in the financial market by pouring money into US bonds, and with good reason.

Japanese investors are making waves in the financial market by pouring money into US bonds, and with good reason. The speculation surrounding the potential end of the US Federal Reserve's interest rate hike cycle has sparked a wave of interest from investors. According to data from Japan's Finance Ministry, net buying of medium and long-term debt instruments in the US reached a staggering 13.6 trillion yen ($93 billion) in the first half of this year alone, marking a record six-month period since 2014.

An interesting dynamic driving this influx of investment is a recent policy adjustment by the Bank of Japan (BoJ), which has made Japanese government bonds more attractive. This adjustment has raised the possibility of cash flow returning to Japanese government bonds in the second half of the year. With central banks around the world expected to raise interest rates in 2022, Japanese investors may be forced to sell off their foreign bonds. In fact, sales of US medium and long-term bonds that year amounted to a record-breaking 15.7 trillion yen. However, Japanese investors have already bought back nearly 90% of that amount in the first half of this year alone.

Japan's position as one of the world's top holders of US bonds is further solidified by the fact that they currently hold around $1.1 trillion of US Treasuries, according to the US Treasury Department. This substantial investment demonstrates the confidence and trust that Japanese investors have in the stability of the US bond market.

While US bonds remain the top choice for Japanese investors, they have also shown considerable interest in the bonds of other countries. In particular, medium and long-term bonds of Australia have caught their attention, with net buying reaching 614.4 billion yen in the first half of this year. This represents a significant increase compared to the 411.7 billion yen sold in 2022. However, when it comes to European bonds, Japanese investors have shown a more cautious approach. Net buying in the first half of the year amounted to 312.6 billion yen, a mere 7% of the 4.270 billion yen sold in 2022.

The rationale behind these varying investment strategies lies in the differing interest rate cycles of the US, Australia, and Europe. The Federal Reserve in the US started raising interest rates in March 2022, resulting in a policy rate increase of 400 basis points by the end of that year. Australia, on the other hand, began raising rates in May 2022, eventually increasing them by 300 basis points at year-end. Due to the rapid rise in interest rates and falling inflation, both countries are expected to be among the first to halt their interest rate hikes. In contrast, the European Central Bank (ECB) started raising interest rates relatively late, in July 2022, and continues to grapple with high inflation.

However, the recent policy adjustment by the Bank of Japan has disrupted this trend. By allowing the yield on 10-year Japanese Government bonds to rise above 0.5%, the central bank has caused their yield to quickly surge to the highest level in nearly a decade. This rise, coupled with the absence of exchange rate risk for Japanese investors, may entice them to switch from foreign bonds back to Japanese government bonds.

One factor that cannot be overlooked is the depreciation of the Japanese yen, which currently stands at a rate of 145 to 1. Tatsuki Nagano, Managing Director and fund manager of All Nippon, has highlighted the risk of foreign exchange losses due to the potential appreciation of the yen in the future. This risk makes it increasingly challenging for Japanese investors to buy foreign bonds without a hedge.

The potential impact of the Bank of Japan's policy changes has garnered attention from international institutions as well. The European Central Bank warned in its financial stability report released in May 2023 that the normalization of the Japanese currency could lead to a decline in European bond prices. The International Monetary Fund (IMF) also expressed concerns in April 2023 that bond markets in Europe, the US, and elsewhere could experience capital outflows due to the Bank of Japan's policy adjustments.

Overall, Japanese investors remain optimistic about the future of the global bond market and do not see domestic changes rocking the boat. The influx of capital into US bonds, coupled with the growing interest in Australian bonds, points to a preference for stable economies with favorable interest rate cycles. As the global economic landscape continues to evolve, it will be intriguing to see how Japanese investors navigate these uncertain waters.