Japanese government bond futures hit a one-month high on Monday as Tokyo's Nikkei share average plunged 4.5 percent on concerns about the stronger yen hurting corporate profits and on growing worries about a United States recession.
JGBs were boosted by sharp gains in US Treasuries on Friday, when another round of weak economic data prompted bets on aggressive interest rate cuts by the Federal Reserve.
But futures trimmed gains in the afternoon, with some dealers locking in profits as the lead March contract has been rallying non-stop after it hit a two-month low on Wednesday. Investors were careful about chasing yields too low before a series of important overseas economic events later this week.
"People are hesitant about making heavy bets before Friday's high-profile United States employment data," said Mari Iwashita, a senior market economist at Daiwa Securities SMBC. March 10-year futures rose 0.23 point to 138.70, after reaching as high as 138.93, their highest since a 2-year high of 138.94 hit on January 23. The lead contract fell as low as 136.89 last week, its lowest since late December.
JGBs have rebounded sharply since last week as expectations have grown that a downturn in the US economy will drag on Japan and the Bank of Japan could cut interest rates by the year-end. The BoJ has left rates at 0.5 percent for the past year, and interest rate futures are pricing a roughly 55 percent chance of a rate cut later this year, rising from around 20 percent about a week ago.
The benchmark Nikkei average hit a nearly six-week closing low below the psychologically important 13,000 level on Monday on worries that the yen's surge will dent profits of exporting companies, the main engine for the export-dependent Japanese economy.
The yen struck a three-year high against the dollar strengthening to around 102.70 yen. The benchmark 10-year yield was down 2 basis points at 1.335 percent after falling as low as 1.320 percent, its lowest since January 23 earlier in the day.
Some dealers refrained from taking large positions ahead of the Ministry of Finance's 1.9 trillion yen ($18.43 billion) auction of benchmark 10-year JGBs on Tuesday.
"It's because the market is bracing for a 10-year debt auction, the benchmark yield is kept somewhat higher than it could be otherwise," said a trader at an European bank. The five-year yield slid 3 basis points to 0.800 percent after hitting a one-month low of 0.790 percent.
The two-year yield fell 3 basis points to 0.525 percent in sight of the BoJ's overnight call rate target of 0.5 percent. The 20-year yield edged down 1 basis point to 1.990 percent after reaching to a three-month low of 1.985 percent.
Analysts said increasing uncertainty over who will replace BoJ Governor Toshihiko Fukui, who retires on March 19, could cause instability in Japanese markets, though to a limited degree at this point. The government's preferred candidate, Deputy Governor Toshiro Muto, is still the frontrunner to replace Fukui, the Yomiuri newspaper said, but a parliamentary row on Friday has threatened his candidacy.
The government may be forced by opposition lawmakers to change its candidate to head the central bank, with former Deputy Governor Yutaka Yamaguchi a possible alternative, Japanese media reported on Sunday.
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