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Japan’s 40-year government bond auction generated the weakest demand in 14 years as investors responded to reports that Prime Minister Shigeru Ishiba could resign in the coming days or weeks.
The bid-to-cover ratio for Wednesday’s auction, a measure of demand, was 2.127, the lowest for a 40-year Japanese government bond since 2011. Yields on the 10-year bond, which move inversely to prices, climbed back to 1.597 per cent, a 17-year record that was hit last week, before paring gains.
Demand for the 40-year bond was expected to be light, but Japan and the US reached a trade deal late on Tuesday, prompting investors to put their money in equities and fuelling concerns that Ishiba would step down, traders said.
The ruling Liberal Democratic party performed poorly in Sunday’s upper-house elections, but Ishiba had been expected to remain in office until a deal was reached on tariffs. If he does step down, it is not clear who would replace him or how long it would take to anoint a successor.
“Basically, this was a very bad bit of timing in terms of the auction and the news flow,” said a trader in Tokyo. “Almost exactly as the auction is starting, you have conflicting news lines about the PM resigning either now, or in a few weeks.
“Demand is naturally low, as we know, but this was not a moment that anyone wanted to be participating aggressively in an auction.”
After the auction Ishiba said: “There has been absolutely no discussion about my resignation or future plans. While some reports suggest otherwise, I have never made any such statements.”
The speculation around Ishiba’s resignation “adds to uncertainty and it potentially means the opposition may have more leeway in getting some of the fiscal push through that they’ve been pledging”, said Mitul Kotecha, head of foreign exchange and emerging markets macro strategy at Barclays.
Focus on super-long Japanese government bonds has intensified since May, when yields on the longest-dated bonds surged to multi-decade highs amid a structural shift in demand.
Japanese life insurers and banks have pulled back on purchases in response to changing demographics and the Bank of Japan’s efforts to “normalise” policy by raising short-term interest rates. The finance ministry has since trimmed issuance of super-long bonds.
“We already thought [the auction] would be a challenge given some of the uncertainties around politics, but the different reports on Ishiba dented the sales. It’s hard to stand there as a buyer and be in the dark,” said Stephen Spratt, a fixed-income analyst at Société Générale.
Ahead of the 40-year auction, the short end of the yield curve was already experiencing some selling, said Spratt. The trade deal triggered a rapid rise in the shares of Toyota, Honda and other carmakers, and a 3 per cent jump for the Topix benchmark.
That surge weighed on the Japanese government bond market, however, which was already wrestling with the implications of the upper-house election result and the risk that government efforts to alleviate the cost of living would open the taps on huge fiscal spending.
Daleep Singh, chief global economist at PGIM Fixed Income, said “a steeper bond curve is the likely outcome” of the Japanese election, forming part of a global trend of the long end of the curve becoming a “no-go zone” for investors.
“The use of coercive economic statecraft, tariffs, export controls and so forth — all of those are factors that push up the amount of compensation that investors will likely require to hold longer-term government debt because they all have a tendency to raise inflation and to raise the fiscal risk premium,” he said.
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