Bloomberg News

Abe Crunch Year Sees Biggest Risk Jump Among Peers: Japan Credit

January 29, 2014

Japan’s default risk jumped the most among developed nations this year as the world’s third-largest economy faces mounting challenges from energy import costs and a budget overhaul.

Credit-default swaps that insure Japanese government bonds against nonpayment for five years touched 56 basis points on Jan. 27, the highest since Nov. 5, according to data provider CMA. It has risen 14 basis points this month, the most among the 22 sovereigns tracked by Bloomberg, followed by Iceland’s 13 basis point increase.

Prime Minister Shinzo Abe faces a “crunch year” for his economic stimulus policies as he seeks to ensure growth can withstand an April increase in the sales tax, while surging natural gas prices widen the nation’s trade deficit, according to Moody’s Investors Service. A global rout in emerging markets in 2014 has shifted investor attention on Japan’s more than 1 quadrillion yen ($9.78 trillion) debt load, the world’s heaviest as a proportion of gross domestic product.

“There are concerns about Japan’s growing fiscal and trade deficits,” said Takayuki Atake, the Tokyo-based head of credit research at SMBC Nikko Securities Inc., a unit of Japan’s second-largest banking group by market value. “The risk scenario we need to be on a lookout for is for the fiscal situation to deteriorate while the economy lags behind, leading to questions about Japan’s credibility.”

Three Arrows

Abe’s so-called three arrows of economic strategy, consisting of fiscal spending, monetary easing and growth initiatives, helped drive an 18 percent plunge in the yen versus the greenback last year, the most since 1979, and pushed inflation half-way to the Bank of Japan’s 2 percent target.

Liquefied natural gas imports increased 18 percent last year after Fukushima meltdowns shuttered the nation’s nuclear-power plants. Natural gas futures climbed on Jan. 27 to the highest level since February 2010.

Tokyo Electric Power Co. plans to expand LNG imports to as much as 40 million metric tons a year by teaming up with other companies to negotiate lower prices for the fuel, according to a business turnaround plan released this month. Abe pledged this month to invest 70 billion yen in development projects in Mozambique during the next five years as he seeks to secure natural gas supplies from southern Africa.

Data this week showed imports exceeded exports by a record 11.5 trillion yen in 2013, almost double the previous year. Japan’s economy is set to contract 4.1 percent in the second quarter, according to the median estimate of economists surveyed by Bloomberg News.

Further Deregulation

“It’s a crunch year for Abenomics,” Michael Taylor, the chief credit officer for Asia Pacific at Moody’s, said at a media briefing in Hong Kong on Jan. 23. “Though we have seen the impact of the first two arrows of his policy, the question is will it be sustainable this year and what further measures on deregulation will be outlined in the third arrow.”

Moody’s said separately in a Jan. 14 press briefing that a structural current-account deficit is one possible “tipping point” that could trigger a sharp increase in government debt cost. It said the global economic recovery and weaker yen will boost demand for Japan’s exports, helping offset the impact of rising natural gas imports.

The nation’s Aa3 ranking by Moody’s, the fourth-highest investment grade, puts it on par with China and South Korea. It is the lowest among the Group of Seven nations after Italy.

BOJ Effect

Japan’s bonds have so far signaled little doubt about the sustainability of the world’s second-biggest sovereign market. The BOJ’s buying of more than 7 trillion yen of JGBs a month helped keep 10-year note yields at 0.615 percent today, lower than 2.68 percent for similar-maturity U.S. debt and 1.74 percent for Germany’s bunds.

The government will initiate a two-step increase in the sales tax starting April, with the move estimated to raise 13.5 trillion yen a year. Gross domestic product has expanded at more than a 3 percent annualized pace every quarter since the start of 2013 except the July-September period, as the weaker yen aided the nation’s export sector. The Japanese currency was little changed at 102.23 per dollar today as of 10:32 a.m. in Tokyo today.

“The government has decided to raise the sales tax and the economy has improved over the past year,” said Yasunobu Katsuki, the Tokyo-based chief credit analyst at Mizuho Securities Co., the biggest dealer of Japan’s government notes last year in a survey by Greenwich Associates. “We’re moving in the right direction, so I don’t think Japan’s fiscal problems are becoming the center of attention and treated as bad news in CDS markets.”

Record Deficit

Abe said in parliament yesterday he doesn’t expect Japan’s current-account deficit to be permanent. The nation posted a record shortfall of 592.8 billion yen in November in the widest measure of trade.

Japan has never posted a current-account deficit on an annual basis since 1980, according to data from the International Monetary Fund. The IMF forecasts the country will report a surplus for 2013 equivalent to 1.22 percent of GDP and 1.74 percent this year.

“It will be at least after 2015 before the current account deficit starts having an impact on the bond market,” said Kenji Sakaguchi, the Tokyo-based chief investment officer of Prudential Investment Management Japan Co. Even so, “the bond market is cautious about Japan’s current-account deficit taking a firm hold.”

Souring Sentiment

Sentiment toward emerging markets started to sour last year after the Federal Reserve signaled it would reduce stimulus and China’s economy showed signs of slowing.

The MSCI Emerging Markets Index of shares has dropped 11 percent in the past three months. The Bloomberg-JPMorgan Asia Dollar Index (ADXY), which tracks the region’s 10 most-active currencies excluding the yen, has lost 1.6 percent.

The cost to protect Chinese sovereign debt from default rose 16 basis points this month, according to CMA. Argentina led increases in default-swap premiums globally, rising 1,086 basis points, followed by Venezuela and Ukraine. Contracts for Japan are poised for the first monthly advance since August.

“Uncertainties in emerging markets sparked risk aversion,” spurring the increase in Japan’s default swaps, said Ayako Sera, a market strategist at Sumitomo Mitsui Trust Bank Ltd., which has the equivalent of $341 billion in assets. “Because yields have been driven by the BOJ’s easing, investors who haven’t been able to sell JGBs are buying the contracts.”

To contact the reporters on this story: Mariko Ishikawa in Tokyo at mishikawa9@bloomberg.net; Masaki Kondo in Singapore at mkondo3@bloomberg.net; Yumi Ikeda in Tokyo at yikeda4@bloomberg.net

To contact the editors responsible for this story: Garfield Reynolds at greynolds1@bloomberg.net; Sandy Hendry at shendry@bloomberg.net


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