Japanese government bonds rose on Monday, supported by a rally in US Treasuries and slumping domestic share prices, but investors were cautious ahead of the Bank of Japan's outlook report on Tuesday.
US Treasuries rose in the previous session after surprisingly weak growth data boosted expectations for an interest rate cut by the Federal Reserve in 2007. A fall of nearly 2 percent in the Nikkei average also encouraged bond buying, helping JGB futures prices climb further from two-month lows hit last week.
But investors were hesitant to chase prices higher, waiting for clues on interest rates from the BoJ's twice-yearly outlook on the economy and prices on Tuesday in which the central bank will outline its forecasts and policy framework.
"A sense of caution is ruling the bond market as JGB prices are already at high levels," said Tetsuya Miura, a bond strategist at Shinko Securities.
"At the same time, investors are finding few reasons to sell bonds," Miura said. December futures climbed 0.16 point to 134.31, well above a two-month low of 133.17 struck last week. But volume was light at 23,197 contracts.
The benchmark 10-year yield dipped 0.5 basis point to 1.725 percent, down from a two-month peak of 1.850 percent hit last week. Investors were becoming reluctant to buy 10-year notes as their yield neared the 1.7 percent mark, traders said.
A 10-year yield below 1.7 percent is widely regarded as a level at which a rise in interest rates before the end of the business year next March is not factored in, analysts said.
The yield on the two-year note fell 2 basis points to 0.740 percent, and that on the five-year bond fell by the same amount to 1.200 percent. Traders said banks were staying away from the five-year sector, which has not fully covered the risk of a rate increase, and were seen buying two-year and shorter debt securities.
Investors remained keen, however, on 20-year bonds following a well-received debt auction last week. The 20-year yield fell 1.5 basis points to a one-month low of 2.160 percent.
"It seems as if life insurers need to buy 20-year paper more than expected, while the usual buying by institutional investors ahead of the month-end is coming in," said Takafumi Yamawaki, a fixed-income strategist at Morgan Stanley.
JGB prices edged up late last week after soft consumer price data reinforced expectations that the BoJ will wait until early next year to raise interest rates for a second time.
The central bank raised the overnight call rate to 0.25 percent from zero in July, its first rise in six years. The market will closely monitor comments by BoJ Governor Toshihiko Fukui after the central bank holds a policy meeting on Tuesday. The BoJ is expected to hold rates steady.
"It would be interesting to see how the BoJ sees price developments after weaker data for the past month," said Hiroyuki Kubota, a bond analyst at Fisco. Fukui said earlier this month that he could not rule out another rise in interest rates this year, prompting a bond sell-off.
The JGB market shrugged off a smaller-than-expected drop in the headline figure in industrial output data released on Monday. Japan's industrial production fell 0.7 percent in September from a month ago, compared with forecasts for a 1.0 percent decline.
"The headline figure was stronger than expected, but shipments fell sharply and thus I'm a bit worried that inventories may be piling up a bit," said Yasuhiro Onakado, chief economist at Daiwa SB Investments.