Japan rates: Weekly review

Regardless of whether or not the BoJ eases further this month, it is believed that neither the domestic nor overseas economic outlook is strong enough for it to begin the normalization process prior to the next consumption tax hike, which has boosted demand for carry returns. Whether yields will continue to fall is unclear, but the flattening trend is expected to persist.

At the same time, the unclear prospects for normalization mean a higher risk of unintended tapering, and long-expiry swaptions sold alongside short expiries over the past week are now undervalued. In the event of further BoJ easing, it is believed that the biggest immediate reaction will be in inflation-linked JGBs. 

Globally, the repurchasing of risk assets following the release of US payrolls on 2 October has already reached an end, and JGB markets slowly bull flattened this week amid renewed economic fears. Prospects for another BoJ easing at its Monetary Policy Meeting (MPM) on 30 October remain unclear, but demand at the long end has been buoyed by two concerns: 

1) neither the domestic nor overseas economic outlook is strong enough for the BoJ to begin the normalization process prior to the next consumption tax hike in April 2017; and 2) the most viable option in the case of further BoJ easing this year is not a reduction in the interest on excess reserves (IOER) but an increase in superlong JGB purchases.