Japanese government bonds rose on Friday, recovering after the lead futures contract slid for five straight sessions as investors took their cue from a fall in share prices and overnight gains in US Treasuries.
Market gains were led by buying in cash bonds following a rise in yields this week, and analysts said this suggested investors were hungry for debt even as expectations grow that the Bank of Japan will raise rates later this year.
"Buying demand remains strong ... 1.7 percent in the 10-year JGB yield is considered a level to buy at the moment," said Kenro Kawano, a fixed income strategist at Credit Suisse.
But gains were capped due to wariness that first-quarter growth data due next week could be surprisingly strong and might prompt the BOJ to raise rates in the third quarter despite sluggish growth in consumer prices.
Solidifying expectations that the BOJ will lift rates from 0.5 percent before too long had boosted the two-year yield to a 10-month high on Thursday. Shorter-dated maturities are particularly vulnerable to rate rises. JGBs took their cue from a 1.03 percent fall in the Nikkei share average, which followed a drop in US stocks overnight.
The bond market was also boosted by a climb in Treasuries on Thursday after data showed sluggish sales by retailers and a trade deficit that suggested the US economy grew at a slower-than-estimated pace in the first quarter.
CURVE FLATTENS:
June futures ended 0.27 point higher at 134.22, climbing towards a 1-1/2-month high of 134.61 struck last week.
The 10-year yield slipped 2 basis points to 1.645 percent. The benchmark yield has stayed mostly in the 1.6-1.7 percent range since late March.
Buying was less than aggressive as investors avoided picking up more debt than they needed for their portfolios, according to Takafumi Yamawaki, a fixed-income strategist at Morgan Stanley.
Japanese institutional investors remain flush with cash to plough into the market thanks to fresh investment allocations at the start of the business year from April 1. The two-year yield lagged gains in the rest of the market, trading half a basis point lower at 0.865 percent after hitting a 10-month peak of 0.875 percent the previous day.
That put the spread between two- and 10-year yields at around 78 basis points, flattening the yield curve. The spread between the two maturities hovered near 76 basis points hit at the end of April, its narrowest since mid-2003.
The five-year yield fell 2 basis points to 1.225 percent. At current levels, the coupon on a 2 trillion yen ($16.68 billion) offer in the maturity on Tuesday is likely to be 1.2 percent, the same as at the previous three auctions. The yield on 20-year JGBs edged 1.5 basis points lower to 2.090 percent.
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