Bloomberg News

Default Swaps Plunge From Record Amid Haven Demand: Japan Credit

October 16, 2011

Oct. 17 (Bloomberg) -- The cost of insuring Japan’s bonds against nonpayment has slid from the record reached earlier this month as concern eased that Europe’s fiscal woes will spread to the Asian nation with the world’s biggest debt.

Five-year credit-default swaps completed the steepest two- week drop in four years and have decreased 37 basis points, or 0.37 percentage point, from the all-time high of 154.8 basis points on Oct. 4, CMA prices show. Default swaps for the U.S. have fallen 4.8 basis points in October to 47.4.

The slide in insurance costs for Japan’s debt mirrors resilient demand in the domestic bond market, where a sale of 30-year debt last week saw the lowest average yield in more than two years. Japan’s current-account surplus and the yen’s gain are attracting overseas money managers seeking a haven amid signs of slowdown in developed economies, according to Toru Suehiro, a market analyst in Tokyo at Mizuho Securities Co.

“A current-account surplus is Japan’s strength,” said Suehiro, whose company is one of the 25 primary dealers obliged to bid at government debt sales. “Concern about the dollar and euro is deep-rooted especially among overseas central banks, so the bias remains for the yen to be bought.”

Government data last week showed that Japan’s current account surplus, the broadest measure of trade, narrowed in August for a sixth month to 408 billion yen ($5.3 billion). Even so, the nation last year had the world’s second-largest surplus, trailing only China, according to data from the International Monetary Fund in September. The U.S. and U.K. ran the biggest current-account deficits, the figures show.

Current-Account Surplus

Japan has posted a surplus every year since 1981 and will continue to have one until at least 2016, according to IMF estimates. The current account is the difference between total exports of goods, services and transfers, and imports of them.

So far in 2011, overseas money managers have bought 19.9 trillion yen more of Japanese debt than they have sold, set for the biggest annual net purchase in government records going back to 2005.

Demand has increased even as returns on yen-denominated debt trailed most developed-nation peers. Government bonds maturing in more than a year have returned 1.6 percent this year, outperforming only Belgium, Greece, Portugal, Italy and a gauge of euro-block bonds according to indexes compiled by Bloomberg and the European Federation of Financial Analysts Societies. The return on Japan’s debt jumps to 7.3 percent for investors converting it into dollars.

Yen’s Gain

The yen has risen 3.5 percent over the past 12 months, the third-best performer after the currencies of Switzerland and New Zealand among 10 developed nation peers tracked by Bloomberg Correlation-Weighted Currency Indexes. The euro was the second- biggest loser with a 3.4 percent slump during the period.

The euro jumped 2 percent versus the dollar on Oct. 10, the most since July 2010, after French President Nicolas Sarkozy said “we will recapitalize the banks” to help them weather the region’s debt crisis. Default swaps on France were 183.28 basis points on Oct. 14, down from a record 202.51 basis points last month.

“We haven’t had any particular news about Japan but have had concern about Europe’s debt problems,” said Makoto Noji, a senior debt and foreign-exchange strategist at SMBC Nikko Securities Inc. in Tokyo, another primary dealer. “Japan’s default swaps just followed gains in European nations’.”

Japan’s swaps declined 29 basis points since Sept. 30, the steepest decline for a two-week period since September 2007.

Lowest Yields

The Asian country’s 10-year bonds yielded 1.025 percent today, about even with Switzerland as the lowest among developed bond markets tracked by Bloomberg. Rates on France’s similar- maturity debt are almost three times higher.

Japan sold 30-year debt on Oct. 13 at an average yield of 1.938 percent, the least since January 2009. The nation’s total debt may reach 219 percent of gross domestic product next year, according to the Organization for Economic Cooperation and Development.

Elsewhere in Japan’s credit markets, the extra yield investors demand to hold Japanese corporate debt instead of government bonds was 45 basis points on Oct. 14, compared with 256 basis points globally, according to indexes compiled by Bank of America Merrill Lynch. The Ministry of Finance is scheduled to sell five-year bonds tomorrow and 20-year securities on Oct. 20.

Domestic demand for Japanese government bonds has remained strong amid an excess of funds at financial companies, said Nobuto Yamazaki, an executive fund manager in Tokyo at DIAM Co., which manages the equivalent of $129 billion.

Customer Deposits

Customer deposits at banks surpassed outstanding loans by 164 trillion yen at the end of September, according to Bank of Japan data, or bigger than the combined annual economic output of South Korea and Australia. Lenders’ holdings of the nation’s bonds were 158 trillion yen in August, near the record 159 trillion yen reached in April, according to the central bank.

“Banks have ample money because of sluggish loan demand,” said Yamazaki. “With few investment options, those funds are finding their way into government bonds, such as two- and five- year debt.”

The Bank of Japan’s benchmark interest rate is at a range of zero and 0.1 percent, and it buys government bonds at a pace of 21.6 trillion yen a year, 90 percent of which are directed to debt with a maturity of 10 years or less.

Even as Japan’s current-account surplus and monetary easing by the central bank help keep yields low, a debt load that’s twice as big as the economy remains an issue investors’ minds, according to SMBC Nikko’s Noji.

“Concern about Japans’ finances are spreading more and more widely every year,” he said.

--Editors: Rocky Swift, Jonathan Annells.

To contact the reporters on this story: Masaki Kondo in Singapore at mkondo3@bloomberg.net; Monami Yui in Tokyo at myui1@bloomberg.net

To contact the editor responsible for this story: Rocky Swift at rswift5@bloomberg.net


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