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October 3, 2023

Chart of the Week: Japan’s global bond retreat

by Fathom Consulting.

Over the past 20 years, Japanese investors have bought enormous quantities of foreign bonds. As domestic yields have been depressed for so long, and Japan has continued to accumulate savings and foreign reserves, investors have looked for ways to invest abroad to generate higher returns. Total holdings reached 3 trillion USD at their peak in 2020, making Japan the third largest government bond holder in the world after the US and Luxembourg. The vast majority of these bonds are held by financial institutions, which have shown a strong preference for investing in the US, Germany, Australia, and France. Given that yields remain higher outside Japan, one would think that this trend was set to continue; but the opposite is happening – the reason being skyrocketing FX-hedging costs. The widened policy-rate differentials between the BoJ and central banks in other advanced economies have sent the JPY to historical lows, thereby increasing the premium that Japanese investors must pay to hedge their exchange-rate risk. As a result, US Treasuries are today the most expensive they have been in decades for Japanese investors. With domestic yields rising and the BoJ hinting that the era of negative interest rates is finally coming to an end, this paradigm shift is only likely to accelerate. One of the biggest players in the global bond market is in retreat: this begs the question, how will Japan-dependent countries deal with it?

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The views expressed in this article are the views of the author, not necessarily those of Refinitiv Lipper or LSEG.

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