Investors’ wait-and-see approach this year is leading to a growing problem. Cash.
Having sold a record amount of overseas bonds in April, as well as domestic debt, Japanese investors have mostly held off reinvesting the proceeds. Excess reserves at the Bank of Japan from the country’s financial institutions, subject to a 0.1 percent charge, reached the highest in 13 months in April. A redemption of government bonds in June is likely to add to this cash pile, as quarter-ending months typically see four-to-five times more money returned.
Yet despite the abundance of cash at hand, there is no sense of urgency among Japan’s investors to put the money to work. A lack of decisive direction in both currency and bond markets, and lingering concerns of geopolitical risks and U.S. political turmoil have led to a wait-and-hold stance.
“It’s true cash at hand is abundant,” said Eiji Dohke, chief bond strategist at SBI Securities in Tokyo. “Investors have been selling yen bonds and foreign bonds and have shed risk exposures considerably to leave quite a capacity for investment. But they have become very cautious, after experiencing a surge in yields since last fall accompanying the Trump rally.”
Financial institutions boosted reserves held at the BOJ subject to a 0.1 percent charge to ¥28.6 trillion ($256 billion) in April, the highest since reaching ¥29.7 trillion in March 2016, central bank data show. Reserves rose from ¥21.6 trillion in the previous month.
When investors do return to the market, it is more likely to be to Japanese government bonds than foreign equivalents, according to Shinji Kunibe, general manager and head of a fixed-income management department at Daiwa SB Investments in Tokyo. “Super-long” JGBs of 15 or 20 years maturity may be the “choice by default,” as the BOJ remains committed to its policy of keeping the 10-year yield around zero percent, he said.
Should the yen stabilize, the BOJ would also be less inclined to expand its bond buying program, which would halt a steady decline in JGB yields, according to Souichi Takeyama, a rates strategist at SMBC Nikko Securities. This could tempt investors to increase purchases, albeit slowly, he said.
“Everybody wants to buy, but passively,” Takeyama said. “Nobody wants to chase down yields. They may wait until the BOJ reduces bond purchases to lift yields, when markets come to a level where yields fall too low.”
The lack of direction in the yen, currently stuck in a trading range of ¥110-113 to the dollar, is slowing a return to overseas debt. Investors such as insurers prefer to invest without currency hedges, so are waiting to better time their purchases, Takeyama said.
And while hedge costs may have stabilized, it is still difficult for Japanese investors to shift money into overseas bonds, added Daiwa’s Kunibe. U.S. Treasury yields haven’t rebounded and receding political risk in France mean they have probably missed the best opportunity to buy French bonds.
“There may be opportunities to buy French bonds on expectations parliamentary elections will be a non-event, although the spread will be much smaller than in April,” Kunibe said. “U.S. political risks this time look quite serious, so investors might want to jump on the opportunity when Treasuries dip, as it may not happen so often.”
For now, it seems the wait-and-see approach will continue. Even if domestic bonds do become the default purchase-of-choice, the cash-rich, risk-averse Japanese are unlikely to rush. The presence of foreign investors, net buyers of super-long JGBs for a fifth consecutive month in April, may also provoke caution, according to Yusuke Ikawa, Japan strategist at BNP Paribas Securities in Tokyo.
April was when geopolitical risks were heightening, so if foreigners decide to sell, there is an incentive for Japanese investors to wait, Ikawa said. “They will stick to buying more when yields rise and less when yields fall.”