The yen hedges against U.S. Treasury yields for the first time in over two years. Will the U.S.'s top overseas "creditor" restart the "buy, buy, buy" model?
With the Federal Reserve cutting interest rates, Japanese investors' currency hedging of U.S. Treasury yields has risen above zero for the first time, with the 10-year U.S. Treasury yield reaching 0.28%. The significant decrease in hedging costs has attracted more investors into the U.S. bond market. Although the hedged yield is still lower than Japanese government bonds, the trend of Japanese funds flowing into U.S. bonds is evident and is expected to be more aggressive next year. Japan has become the largest overseas holder of U.S. Treasuries, with net purchases reaching 15.1 trillion yen in the first 10 months
According to Zhitong Finance APP, with the Federal Reserve's interest rate cuts, Japanese investors' currency hedging of U.S. Treasury yields has risen above zero for the first time in over two years.
The yen-hedged 10-year U.S. Treasury yield has risen to 0.28%, remaining below zero since September 2022. Hedging costs have declined by about 170 basis points from the peak reached in October 2023. The hedging costs are largely driven by the short-term interest rate differential between the two economies.
Eiichiro Miura, head of the Strategic Investment Department at Nissay Asset Management in Tokyo, stated, "The increase in hedged yields has enhanced the investment attractiveness of U.S. bonds." He noted that starting from the next fiscal year in April, "some investors may become more aggressive."
For many local investors, although the hedged U.S. Treasury yields remain relatively low, about a quarter of Japan's 10-year government bond yields, fund managers have begun to flood into the U.S. bond market without taking currency protection measures.
Ayako Sera, a market strategist at Sumitomo Mitsui Trust Bank in Tokyo, stated, "The inflow of Japanese funds into U.S. bonds may be driven by investors seeking foreign exchange returns. With U.S. yields exceeding 4%, it makes sense to profit from capital gains and currency returns when the dollar-yen exchange rate provides a buying opportunity on dips."
According to compiled latest data, following a record high of 20 trillion yen from January to October last year, Japanese investors' net purchases of U.S. bonds totaled 15.1 trillion yen (approximately $96 billion) in the first ten months of this year. Japan has been the largest overseas holder of U.S. Treasury bonds since June 2019.
From January to October, despite the Bank of Japan tightening its policy twice during this period, the yen depreciated by about 7% against the dollar. In the same period last year, the currency depreciated by about twice that amount.
Keisuke Tsuruta, a senior fixed income strategist at Mitsubishi UFJ Morgan Stanley Securities in Tokyo, stated, "The Bank of Japan is likely to only raise interest rates slowly," therefore, "we expect that the currency hedging costs from Japan will not decline significantly."
