Japan bond yield surge deepens regional bank stock divide
Lenders with holdings vulnerable to higher yields are being punished by investors for unrealised losses
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JAPAN’S rising bond yields are likely to widen the stock performance gap between regional lenders with weaker investment portfolios and those with stronger holdings, according to analysts.
Higher interest rates often work in banks’ favour by widening lending margins if supported by central bank action. But when lenders have holdings that are vulnerable to higher yields, they’re punished by investors for the unrealised losses. And the rapid pace at which yields have spiked in recent weeks suggests they’re likely to underperform further.
“Banks facing mounting unrealised losses on bonds will find it difficult to pursue aggressive investment strategies, and one could also argue that this is eroding their capital,” said Naoki Fujiwara, a senior fund manager at Shinkin Asset Management. Banks also face some risk of impairment, particularly for ultra-long-term bonds, he said. Lenders with large unrealised losses may need to take charges if their holdings drop to half their value.
Shares of regional lenders North Pacific Bank and Senshu Ikeda Holdings, both which carry relatively large paper losses on their books, have underperformed the Topix bank index, while those of Awa Bank and Hyakugo Bank, which boast strong portfolio returns, have significantly outperformed the sector, according to data compiled by Bloomberg.
Yields on longer-term Japanese government bonds have recently risen to multi-decade highs as high energy prices from the Middle East conflict stoke inflation fears. Worries about an increase in fiscal spending requiring more debt sales have also contributed.
An analysis of lenders by Yoshitaka Suda, a senior cross-asset strategist at Nomura Singapore, shows that those with larger unrealised gains have performed better than those with weaker positions over the last few years. As investors remain wary of a sharp rise in bond yields, “the divergence could widen further”, he said.
Banking stock prices have more than doubled over the past several years since the Bank of Japan started raising interest rates and normalising monetary policy in March 2024. More recently, the central bank has been holding off on rate increases, while bond yields have continued to rise, hitting regional lenders with weaker capital buffers.
Some investors remain upbeat on the sector as a whole, citing sound fundamentals.
The recent rise in long-term yields has not materially diverged from fundamentals given inflation expectations, said Hiromi Ishihara, head of equity investment at Amundi Japan. “Rather, this is an environment in which improving profitability at banks, including regional lenders, is likely to come into sharper focus,” she added. BLOOMBERG
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