Interactive Investor

Bond Watch: Bank of Japan triggers a bond sell-off

23rd December 2022 09:12

by Sam Benstead from interactive investor

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Sam Benstead breaks down the latest news affecting bond investors.

Welcome to interactive investor’s ‘Bond Watch’ series, covering the latest market and economic news – as well as analysis – that is relevant to bond investors.

Our goal is to make the notoriously complicated world of bond investing simpler, by analysing the week’s most important news and distilling it into a short, useful and accessible article for DIY investors.

Here’s what you need to know this week.

    Japanese bond yields finally rise

    The Japanese central bank loosened its yield curve control policy, where it was buying an unlimited amount of its 10-year bonds to keep the interest rate near zero, with a fluctuation of 0.25 percentage points allowed.

    The band has now doubled to 0.5 points, which will allow yields to rise higher than before. Yields on the Japanese 10-year bond have nearly doubled since the news, from 0.28% to 0.52%.

    Deutsche Bank says the Bank of Japan’s decision has several broader implications.

    Jim Reid, head of global fundamental credit strategy at the firm, said: “It could mark the start of a move away from ultra-loose monetary policy in Japan, then that could see Japanese investors shed their foreign bond-holdings in favour of domestic ones that now attract a higher yield. 

    “We’ve also seen a big reduction in the quantity of global debt with a negative yield following the Bank of Japan’s move, with Bloomberg’s index down to $686 billion, which is down from $14 trillion only a year ago, and a peak above $18 trillion in late-2020.”

    If Japanese investors move money out of global bonds and into domestic ones, then this would be bad news for developed world sovereign bond prices.

    A bad December for bonds

    The news out of Japan contributed to a bad month for gilts, as investors anticipated Japanese investors selling UK bonds for domestic ones.

    The yield on the 10-year UK gilt rose from about 3% at the start of December to nearly 3.6%, with bonds across the yield curve, but particularly longer-dated bonds, also seeing steep price changes. The typical gilt fund is down 4% in December.

    Corporate bond funds also suffered, with the average sterling corporate bond fund losing close to 2% in value.

    The Bank of England raised interest rates 0.5 percentage points in December to 3.5%, with six out of eight members of the committee supporting the increase.  

    The Bank of England said: “The labour market remained tight and there had been evidence of inflationary pressures in domestic prices and wages that could indicate greater persistence and thus justified a further forceful monetary policy response.”

    If inflation becomes more embedded, then this could lead to higher interest rates for longer, which would be bad news for bond prices.

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