Kuroda bond-buying stimulus nearing limit as market shrinks

[TOKYO] Japan's bond market is signaling that sellers are running short of debt to offer to the central bank, limiting policy makers' capacity to bolster stimulus.

Japanese government bonds held by the BOJ doubled to 255.8 trillion yen (US$2.1 trillion) at the end of December from March 2013, before Governor Haruhiko Kuroda introduced unprecedented easing, central bank data show. By contrast, holdings of the securities by other entities fell 8.8 per cent, or 74 trillion yen, to 767.4 trillion yen in the period. Outstanding JGBs and bills rose 5.5 per cent to 1.023 quadrillion yen.

Among signs the BOJ's quantitative easing strategy is nearing a limit are the lowest sovereign debt trading by banks and insurers in at least 11 years and the wildest price swings since June 2013. While investors have been more willing to sell longer-dated debt to the central bank as yields rose from a record low in January, Barclays Plc estimates that if policy makers expand existing stimulus, undersubscriptions will probably start as early as March 2016.

"There is not much room left to expand JGB buying for the BOJ," said Akito Fukunaga, the Tokyo-based chief rates strategist at Barclays in Tokyo. "Even if the BOJ continued with its current pace, the market is going to fail eventually and that's the reality we're facing right now."

Trading of JGBs by city banks, trust banks and insurers in January fell to a record low of 22.2 trillion yen in data going back to 2004 by Japan Securities Dealers Association. Their dealings totaled about 25 trillion yen in February, down 25 per cent from around 33 trillion yen in March 2013.

A measure of 60-day volatility for JGBs was near its highest since June 2013, as the BOJ shrinks the market by buying as much as 12 trillion yen of the debt every month, equivalent to more than 90 per cent of notes offered to investors.

The BOJ held 25 per cent of outstanding JGBs including treasury bills as of end-December, according to the bank's data. If it keeps buying at the current pace, the proportion would exceed 40 per cent sometime in fiscal 2016 and top 50 per cent in fiscal 2017, said Kazuto Doi, a Tokyo-based fund manager at Western Asset Management, which oversaw US$466 billion as of the end of December.

"The BOJ would hold about two-thirds of JGBs by the 2020 Tokyo Olympics at this pace of buying," said Doi. "That would raise doubts about the functionality of markets."

If policy makers expand existing stimulus to 100 trillion yen annually from the current 80 trillion yen, the BOJ will probably start to not get enough offers at its operations as early as March 2016, according to Barclays.

Hideo Kumano, an economist at Dai-ichi Life Research Institute and a former BOJ official, said since maintaining the current pace of buying is getting difficult, the BOJ may be preparing to tweak technicalities to avoid operations known as rinban from failing.

JGBs held by investors would total 581 trillion yen in March 2017, about 9 trillion yen more than the amount they should be offering to the BOJ for it to conduct rinban operations without leading to undersubscriptions, according to Barclays's Fukunaga.

For now, the risk of BOJ not getting enough offers appears distant. Investors pledged last week to sell 648 billion yen in sovereign debt with 10 years to 25 years until maturity, of which the BOJ bought 241 billion yen. The bid-to- cover ratio for the operation was the highest since March 2.

"I don't sense any risk of undersubscriptions at the moment," said Tadashi Matsukawa, Tokyo-based head of fixed- income investment at PineBridge Investments Japan, part of a company that managed US$72.9 billion of assets globally as of Dec. 31.

Mr Kuroda said the BOJ aimed to achieve the 2 per cent inflation target in about two years when he took office in March 2013. He has since modified the timeframe, pushing it back to sometime in the year through March 2016.

It would be hard to reach the goal in two years and failure to do so "wouldn't be such a big problem" for the economy, BOJ board member Yutaka Harada said at his inaugural press conference on March 26.

Twenty-three of 34 economists said the BOJ will expand stimulus by the end of October, according to a Bloomberg survey conducted March 5-12. The central bank will hold a two-day policy meeting next week.

"From a market standpoint, the bigger the challenge in meeting the 2 percent target, the greater the scope for yet another burst of QE," Nicholas Spiro, managing director at Spiro Sovereign Strategy in London, said in an e-mailed response to questions. "The BOJ has boxed itself in - dangerously so."

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