Japan’s Two-Year Yield Hits Highest Since 2008 on Rate-Hike Bets

(Bloomberg) — Japanese government bonds slumped, with the two-year yield rising to its highest level since 2008, after comments from the Bank of Japan chief brought a December rate hike into focus.

The two-year rate, which is sensitive to monetary policy expectations, rose 3 basis points to 1.02%, while yields on other maturities also surged. The yen also strengthened as much as 0.5% to 155.4 against the dollar.

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Swaps market traders ramped up bets for a hike this month after Governor Kazuo Ueda said the central bank will consider the pros and cons of raising the policy rate and make decisions as appropriate. In a closely watched speech, Ueda said the likelihood of its economic outlook being realized is rising, and conditions would still be accommodative even if the policy rate is raised.

“Growing expectations of a BOJ rate hike are helping the yen appreciate and putting upward pressure on the two-year JGB yield,” said Hirofumi Suzuki, chief FX strategist at Sumitomo Mitsui Banking Corp. “Governor Ueda’s comments sounded slightly more hawkish than expected, and this may become the turning point for the yen.”

The governor’s comments mark “a significant shift from his remarks after the last monetary policy meeting,” and are driving yields higher across the bond curve, said Chidu Narayanan, chief APAC strategist at Wells Fargo in Singapore.

The yield on five-year notes jumped 7 basis points to 1.38%, while that on the benchmark 10-year bond added 7 basis points to 1.87%. the highest since 2008.

The swaps market is now pricing in an over 80% chance of a rate hike when BOJ delivers its next policy decision on Dec. 19, compared with 23% just a week ago. The likelihood rises to more than 94% by its January gathering.

What Bloomberg strategists say:

Ueda is still hedging his language, but by saying if rates are raised it is still accommodative it sounds like he is in favor of a December move.

— Mark Cranfield, Markets Live Strategist. Read more on MLIV.

At a press conference on Monday, Ueda said the currency could be a factor in boosting inflation, and authorities will need to watch the risk of foreign exchange affecting price trends.

Separately, the Ministry of Finance plans to increase its issuance of short-term debt to help finance Prime Minister Sanae Takaichi’s economic package, boosting supply of two- and five-year notes by ¥300 billion ($1.92 billion) each and Treasury bills by ¥6.3 trillion. That’s set to weigh on shorter-end sovereign bonds.

It’s “prudent to remain cautious” about bonds right now, said Ryutaro Kimura, senior fixed-income strategist at AXA Investment Managers. The market has to take into account “the anticipated re-acceleration of inflation under the fiscal expansion of the Takaichi administration and the deterioration in the supply-demand balance due to a substantial increase in medium-term JGB issuance.”

The mounting speculation of a December hike comes as the yen has slumped almost 5% against the dollar this quarter, making it the worst performer among Group-of-10 currencies. Japan’s inflation has been consistently running above the BOJ’s 2% target, fueling criticism that the central bank is behind the curve in raising rates.

Investors are focusing on an auction of 10-year bonds on Tuesday. The Ministry of Finance’s sale of two-year notes late last week met weak demand, indicating how investors are cautious given the increasing rate hike risk.

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