Bank of Japan Offers To Buy Unlimited 10 Year JGBs To Contain Bond Rout

While Fed chair Powell may have capitulated to the relentless daily demands from the one-term president who unleashed the cloest thing to hyperinflation the US has witnessed in 40 years, to somehow contain inflation (the kind of inflation the Fed has no control over) and to hike rates no matter what the fallout in capital markets is – and judging by today’s stunning 30bps move in the 2 Year we are looking at some epic carnage…

… Japan, whose debt levels blow away every other nation in the world, is not willing to take any such gambles, and on Thursday, the Bank of Japan said it would buy an unlimited amount of 10-year government bonds at 0.25% in defense of the BOJ’s Yield Curve Control limits, underscoring its resolve to prevent rising global yields from pushing up domestic borrowing costs too much.

The offer will be made on Monday, the central bank said in a statement posted on its website after the JGB market closed, although should the US bond crash spill over to Japan, it will have to pull forward its bond market bailout.

The announcement came after the 10-year JGB yield rose to 0.23% on Thursday, the highest since 2016 and close to the 0.25% cap the BOJ set around its target of 0%. The 10-year yield briefly fell after the news and was last at 0.22%.

Investors have increasingly expected the BOJ to step in to rein in recent steady rises in yields. But the timing came as a surprise for some players as previous such operations were all announced during JGB market trading hours.

As Reuters notes, stubbornly hot inflation in the West and growing hawkishness from other major central banks like the U.S. Federal Reserve had spurred some bets that the BOJ would need to taper its ultra-loose monetary policy soon, pushing JGB yields to multi-year highs. But while Japanese inflation is edging up – slowly – it remains well below the BOJ’s 2% target and the economy’s recovery from a pandemic-induced slump has lagged many of its peers. Wages, in particular, are not picking up as fast as in other countries.

“The BOJ sent a strong message to markets of its resolve to curb any rise in yield above 0.25%,” said Masahiro Ichikawa, chief market strategist at Sumitomo Mitsui DS Asset Management.

By announcing its plan days in advance, the BOJ sought to contain the selloff (and shorting) and discourage players from testing the 0.25% line as well as pre-empting any breach of that level – without actually having to purchase JGBs, said former central bank board member Takahide Kiuchi.

“If the BOJ announced the offer during market hours, it would have had to buy huge amount of JGBs. That would be tantamount to strengthening monetary easing, which it wanted to avoid,” he said. “It’s a curve ball by the BOJ.”

Perhaps, but one way or another, the selling will continue as the rate rout spreads to Japan and the BOJ will have to step in.

Naomi Muguruma, senior market economist at Mitsubishi UFJ Morgan Stanley Securities, said the BOJ probably made the announcement as a precaution to avoid yields from spiking next week after a three-day holiday in Japan that begins on Friday.

“It’s uncertain whether JGB yields will slide back because the recent rise was driven by growing market alarm over global inflationary risks and higher U.S. Treasury yields,” she said.

According to Valentin Marinov, strategist at Credit Agricole, the Bank of Japan’s offer to buy an unlimited amount of 10-year notes is part of efforts to restore its credibility and grip on yield-curve control: “The BOJ is trying to restore the credibility of its yield curve control policy framework which has come under pressure recently following the U.S. Treasuries selloff.” He added that “the BOJ is clearly not worried about a runaway inflation in Japan and instead seems to try to maintain favorable financial conditions.”

Under its yield curve control policy, the BOJ pledges to cap the 10-year JGB yield around 0% to keep borrowing costs low and stimulate the economy. In a policy review conducted in March last year, the BOJ clarified that it will allow the 10-year JGB yield to move 25 basis points on either size of zero. It was intended to breathe life back into a market made dormant by the BOJ’s huge presence, where days would pass without a single trade.

Markets have been focusing on how the BOJ would respond to creeping JGB yields. The offer to buy unlimited amount of JGBs at 0.25% would be the most powerful weapon the central bank has to control the 10-year yield around its target.