Japanese government bond (JGB) futures fell back on Friday from a four-month high after US Treasuries dropped on a big bounce in oil prices above $120 that revived inflation fears.
Analysts said the overall direction of futures had become less affected by overseas markets lately, but some investors took their cue from losses in Treasuries to book profits from recent strength in Japanese debt.
September futures fell 0.34 point to 137.69 stepping back from a four-month high of 138.12 reached last week. JGBs have been firm for the past month, shrugging off sporadic sharp falls that sparked renewed buying due to expectations that a global slowdown would hurt Japan.
The outlook for a weaker economy has reinforced expectations that the Bank of Japan will keep rates steady in the coming months. But market watchers said JGBs may have reached a near-term ceiling.
"The market is running out of upside. For example, the consensus now is that the five-year yield at 1.000 percent is too low unless one expects a rate cut by the BOJ," said Tatsuo Ichikawa, a fixed-income strategist at RBS Securities.
The five-year yield hit a four-month low of 0.980 percent last week but has since hovered mostly above 1.000 percent. It rose 3 basis points to 1.020 percent on Friday. Money market futures recently showed that some even saw a possible interest rate cut by early next year, but BOJ Governor Masaaki Shirakawa cooled such expectations this week by reiterating the view that the economy would eventually return to moderate growth.
"Yield levels such as 1.4 percent for the 10-year bond and 1.0 percent for the five-year note have been a strong resistance, and will be so for a while," said Keiko Onogi, a senior JGB strategist at Daiwa Securities SMBC. The benchmark 10-year yield climbed 3 basis points to 1.440 percent off a four-month low of 1.410 percent hit the previous day. On the other hand, strong investor demand for the bonds should keep a lid on any spike in yields, even before next week's bond auctions, Onogi at Daiwa Securities SMBC said. The Ministry of Finance will sell new 20-year bonds and two-year notes next week, followed by an auction of 10-year bonds the following week. The yield curve steepened on Friday as dealers sold longer-dated maturities to make room on their books ahead of the 20-year auction.
Market players said some of the selling in the super-long sector was an attempt to raise the coupon on the new 20-year bond. At current levels, the new 20-year issue would be given a 2.1 percent coupon, significantly lower than the 2.3 percent at the previous tender. Either way, traders see the new 20-year issue being met by decent demand from investors such as pension funds since month-end duration extensions by index players are expected to be more active than the previous month.