According to the results of the Greenwich Associates 2013 Japanese fixed-income investors study, bond purchases implemented as part of the government of Shinzo Abe’s economic stimulus package have drained liquidity from the JGB market. Over the course of the research period covered by Greenwich – the year to June 2013 – trading volumes in JGBs fell 15%.
"In this difficult environment, Mizuho defended its position as the market’s top leader, with a 15.1% market share in JGB trading, followed by Mitsubishi UFJ at 13.3%, Nomura Securities at 11.4% and SBMC Nikko Securities at 8.3%. Daiwa Securities and Goldman Sachs follow, with market shares of 6.8% and 6.3% respectively," the Greenwich report says.
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Gains by Mitsubishi UFJ Morgan Stanley Securities have propelled it into a tie with Daiwa Securities at the top of the market in secondary trading of yen-denominated investment-grade credit bonds. SMBC Nikko Securities and Mizuho Securities are next, followed by Nomura Securities.
Foreign momentum
"With volumes down so precipitously, foreign dealers are finding it difficult to support robust JGB businesses, so they are focusing on other products, including credit bonds," says Greenwich Associates consultant Tim Sangston. "As a result, even though domestic dealers now control some 80% of trading volumes in investment-grade yen credit bonds, a limited number of foreign dealers, including Citi, Bank of America Merrill Lynch and Barclays, are focusing on this product and showing some momentum."
Foreign firms already dominate trading in non-yen bonds. Among Japanese securities firms, only Nomura, with its relatively robust international presence, ranks among the market leaders. Deutsche Bank holds a commanding position, with a market share of 13.5%, followed by Citi and Barclays, which are tied with market shares of around 9%, and Nomura and JPMorgan, which are tied at approximately 8%.
Meanwhile faltering exports, weak economic data and a peak in inflation have triggered fears about Abenomics, suggesting the yen needs to be much weaker for the strategy to play out.
That these concerns are beginning to gain traction in investors’ minds might be evidenced by the recent jump in Japan’s default risk – as implied by credit default swap prices – to the highest among developed markets this year.
In broad terms, as first spelt out by the IMF in its ‘Global financial stability report (update)’ in October 2012 and reiterated in subsequent releases, although Japan was trapped in chronic deflation, it was "a stable equilibrium", with the real value of savings rising due to almost zero inflation, despite the concomitant perennially low interest rates.
However, with inflation now at substantially higher levels – the consumer price index in December was 100.9 (2010=100), up 0.1% from the previous month and up 1.6% over the year, according to figures from the Ministry of Internal Affairs and Communications – and Japanese government bond yields picking up, the IMF warns of a spike in debt costs and a domestic flight from JGBs.
This, in turn, says the IMF, could trigger a problem in Japan’s banking system, as the holdings of JGBs by Japanese banks are equivalent to nine times their tier 1 capital. This high level of debt-holding by Japan’s banks is as characteristic of Japan as it is of euro-area sovereigns under market pressure, and is expected to increase over the medium term, particularly for smaller, regional banks, the IMF concludes.
Tipping point
Such risks might reach a tipping point, according to a statement from Moody’s in mid-January, with a sustained worsening of Japan’s current account into a structural deficit that might well trigger a sharp increase in government debt costs. In this context, even with a yen that has depreciated from around 75 to the dollar to more than 100 since Abe became prime minister in 2012, Japan’s trade deficit widened to ¥11.47 trillion ($112.41 billion) last year, from ¥6.94 trillion in the previous year – the third straight year of deficit, and the longest since records began in 1979.
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"Part of our strong conviction that the yen will fall over time is that, put simply, Japan needs a much weaker currency; but unfortunately for Japan, it is becoming very clear that the yen move to date is nowhere near enough for this dynamic to play out," says Ric Deverell, global head of commodities, GFX and Asia strategy for Credit Suisse, in London. "Having traded sideways for five months, the boost to inflation and output growth looks to have already peaked, and while year-on-year rates of growth are still moving in the right direction, the sequential data are already showing the impact is fading, and the surge in exports seen earlier last year has also peaked."