Japan Bonds Complete Fourth Weekly Gain on Stock Indexes Slump

By Theresa Barraclough

Aug. 23 (Bloomberg) -- Japanese government bonds completed a fourth weekly gain as local stock indexes slumped, boosting the attraction of fixed income assets.

Benchmark 10-year yields this week touched the lowest in four months after the Bank of Japan said it became more pessimistic about the outlook for the economy and kept interest rates at 0.5 percent. A government report on Aug. 21 showed Japan's trade surplus narrowed, as shipments to the U.S. dropped for an 11th month.

``The data has been poor, all the numbers look poor, which is enough reason for bond prices to rally,'' said Stefan Liiceanu, a Tokyo-based senior fixed-income strategist with Barclays Capital Inc., the U.K.'s third-largest bank. There has been some ``asset reallocation'' from stocks to bonds, he said.

The yield on the 1.5 percent bond due June 2018 fell 1 basis point this week to 1.445 percent, according to Japan Bond Trading Co., the nation's largest interdealer debt broker. The price rose 0.085 yen to 100.472 yen. The yield fell to as low as 1.41 percent on Aug. 21, the lowest since April 21.

Ten-year bond futures for September delivery were unchanged at 137.69 on the Tokyo Stock Exchange. A basis point is 0.01 percentage point.

The Nikkei 225 Stock Average lost 2.7 percent this week and the broader Topix index dropped 2.5 percent.

Japan's 10-year yields had a correlation of 0.68 with the Nikkei 225 in July, compared with 0.50 in June, according to Bloomberg data. A value of 1 means the two moved in lockstep.

Bond Returns

Benchmark bonds have handed investors a return of about 0.8 percent so far this month through Aug. 21, compared with a 1.1 percent return for holders of U.S. Treasuries, according to indexes compiled by Merrill Lynch & Co. The Nikkei 225 lost 4.7 percent in the same period.

The demand for bonds this week was limited on speculation yields that fell to the lowest since April deterred investors from buying the securities.

Bonds are looking ``pretty expensive,'' said Tatsuo Ichikawa, a senior strategist in Tokyo at RBS Securities Japan Ltd., one of the 26 primary dealers required to bid at government auctions.

Ten-year yields have fallen from an 11-month high of 1.895 percent reached on June 16 on mounting evidence Japan, the world's second-largest economy, is slowing. A government report on Aug. 13 showed gross domestic product shrank an annualized 2.4 percent in the three months ended June 30, bringing the nation to the brink of its first recession in six years.

The demand for bond futures was also tempered as a technical chart that traders use to predict changes in prices, suggested it may decline, according to Daiwa Securities SMBC Co. The contracts approached 138.14, which is a 61.8 percent reversal of the drop from a high on March 19 of 141.91 to a June 13 low of 132.05, according to the Fibonacci series of numbers.

`Strong Resistance Level'

``Many people are looking at the 138.14 level as it is a strong resistance level,'' said Keiko Onogi, a debt strategist at Daiwa Securities, another primary dealer. ``People are cautious of this level and we don't have enough factors to drive the market above it.''

Bank of Japan board members said there are few signs that rising commodity prices will prompt companies to increase wages and fan inflation, minutes of the July 14-15 meeting released yesterday showed. The minutes came two days after the central bank cut its economic assessment, saying growth in the world's second-largest economy is ``sluggish'' for the first time in 10 years.

``Many members said that wages had not risen markedly in Japan and to date there had been no sign of second-round effects from the rise in prices of petroleum products and food,'' according to the minutes.

BOJ Rate Outlook

Economists say the benchmark interest rate is unlikely to increase from 0.5 percent until next year at the earliest. The rate was last raised in February 2007.

``Still, market speculation of a BOJ rate cut probably will not vanish in coming months, leaving room for further modest JGB yields declines, as the economic slump likely continues,'' Tomoko Fujii, head of Japan economics and strategy at Bank of America Corp., wrote in a research note.

There is a 7 percent chance the central bank will reduce interest rates to 0.25 percent by year-end, according to calculations by JPMorgan Chase & Co. using overnight interest- rate swaps.

Japan's government isn't considering selling new bonds to fund an economic stimulus package that will be unveiled next week, Finance Minister Bunmei Ibuki said yesterday.

``I'm not making the assumption that the government will issue bonds'' to finance the relief measures, Ibuki said at a press conference in Tokyo yesterday. He said the package may be funded by an extra budget for the current fiscal year as well as next year's regular budget.

To contact the reporter on this story: Theresa Barraclough in Tokyo at tbarraclough@bloomberg.net.