Despite the recent reversal of anticipated flows to EU bonds from Japan’s unprecedented monetary easing, developments in Tokyo could yet lead to substantial inflows to Europe from Japanese institutional buyers.
This is due to the recent decision by Japan’s $1 trillion Government Pension Investment Fund (GPIF), the world’s largest public pension fund, to tweak its asset allocation, increasing allocations to foreign stocks and foreign bonds.
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| Kevin Gaynor, global head of asset allocation strategy at Nomura |
The move was made under pressure from prime minister Shinzo Abe in an attempt to quell the recent volatility in the Nikkei after the introduction of unprecedented monetary easing in April. “The government pension fund announced a change to its allocation recently – at the margin more into equity and foreign debt,” says Kevin Gaynor, global head of asset allocation strategy at Nomura.
“It wasn’t huge but the message is clear. Japanese pension funds are therefore going to be buying more EU bonds, US treasuries and emerging markets. This will be meaningful for Europe.”
GPIF will cut its allocation to domestic bonds from 67% to 60% of its ¥112 trillion ($1.17 trillion) total assets and will boost holdings of domestic stocks from 11% to 12%. The allocation to foreign stocks will rise from 9% to 12% and to foreign bonds from 8% to 11%.
Gaynor explains that the move it significant as so many Japanese pension funds use the GPIF allocation as their benchmark.
“Asset allocation at Japanese pension funds is slow moving,” he says. “As such, if an asset class rallies, they will sell into it in order to get back to the benchmark weighting. There have been some flows from pension funds but most are looking toward anticipated asset allocation adjustments in the second half of the year.”
This could result in the kind of flows to Europe that many were anticipating when Japanese monetary easing was announced in April.
“In Europe, the market got ahead of itself in anticipating flows,” says Gaynor. “The flows did flow into France and Belgium, and then they reversed. There was a good four to six weeks of reasonable inflows but they were front-loaded – it was the banks and some institutional accounts that were buying.
“There was a heightened awareness of the flows so it is hard to tell how much was always there. The flows were in tens of billions rather than hundreds of billions.”
The recent volatility in the JGB market could act as a catalyst for some of these flows. The yield on the benchmark 10-year bond fell to a record low of 0.315% after the Bank of Japan’s announcement of its new monetary policy in April but by May 23 it had risen to 1%. In June it was trading at around 0.8%.
“The volatility in JGBs has spooked investors,” Gaynor tells Euromoney. “It has led to a lot of losses which has made investors in Japan nervous. The BoJ is focused on stability and is trying to achieve this by more regular interventions. They might need to extend duration of operations.
“There have been various broker meetings with the BoJ and dealing desks – the BoJ can’t ask the banks to get behind this if they are losing money.”
Japanese banks have had risk management pressure from losses on JGBs and the insurance sector is also licking its wounds. Risk appetite for duration has therefore been reduced. One manifestation of this is that many investors are switching out of long-duration JGBs for shorter-duration bonds in Europe.
The extent to which this trend plays out as anticipated is, along with the rest of the market, at the mercy of the market’s reaction to recent comments by US Federal Reserve chairman Ben Bernanke about tapering quantitative easing.
“The comments by the Fed have scuppered a lot of this thinking,” says Gaynor. “They are forcing a rethink on the carry trade in emerging markets and equities. But the Fed is just taking out duration – it is not saying that it will hike rates. They are trying to boil a frog.”
