Foreign investors exit super long-term Japanese government bonds as local banks enter the market for the first time in a decade.

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The market’s attitude toward Japanese government bonds is becoming divided: as foreign funds and some long-term institutional investors turn cautious, a regional Japanese bank known for outstanding bond trading performance in recent years has started buying Japanese government bonds for the first time in a decade.

According to a Bloomberg report on Monday, Iyogin Holdings Inc. CEO Kenji Miyoshi said, since April, the bank has tested this roughly $7 trillion market by making small-scale purchases of super-long-term Japanese government bonds, which is the first time since 2016 that the bank has bought Japanese government bonds for investment purposes.

This move comes at a time of fragile sentiment in the Japanese bond market. The latest April data show that foreign investors became net sellers of super-long-term Japanese government bonds for the first time since 2024. Institutions such as T. Rowe Price, Schroders, and Brandywine Global have also recently reduced their exposure to super-long JGBs, or are only maintaining tactical positions.

For investors, the core issue with JGBs is no longer just the yield. The yield on 30-year JGBs has climbed to multi-decade highs and, once hedged, was relatively attractive, but the market is more focused on the pace of Bank of Japan tightening, the impact of fiscal expansion on bond supply and demand, and who will absorb supply after the BoJ exits.

Back to JGBs after a Decade: Positive Yields Change Portfolio Logic

Kenji Miyoshi said that apart from short-term bills used as collateral for financing transactions, Iyogin has not bought JGBs for investment purposes since 2016. He said in the past “it was basically impossible to invest.”

Now, the situation has changed. Miyoshi stated, “With the return of a positive yield world, investment opportunities have arrived.” In his view, within an overall securities portfolio including foreign bonds and equities, taking on yen interest rate risk via JGBs has become a necessary choice for risk diversification.

As of the end of March, Iyogin’s securities investment portfolio was about 1.7 trillion yen, with around 400 billion yen in yen-denominated bonds, 500 billion yen in currency-hedged foreign bonds, and 320 billion yen in unhedged foreign bonds.

However, the bank is not fully shifting toward duration risk. Naoaki Fujita, a senior executive in charge of markets, said Iyogin will not buy 10-year JGBs for now as yields may rise further. Currently, the bank is gradually buying some attractively valued super-long-term bonds.

Trading Capability Provides Confidence, But Purchases Remain Cautious

According to an SMBC Nikko Securities Inc. report, Iyogin is the only regional bank in Japan that made bond investment profits in both of the last two years. The bank has also excelled in foreign bond investments.

Japanese regional banks typically buy overseas bonds like US Treasuries and hedge foreign exchange risk. However, Iyogin previously chose to bear FX risk as it anticipated a weakening yen against the dollar. Since the yen’s sharp decline around 2022, this judgment has yielded significant profits.

In the fiscal year through March, profits from unhedged foreign bonds and other securities helped boost Iyogin’s net profit by 40% year on year, reaching a new record. The company’s stock price is up 21% so far this year.

The bank also profited from investments in Nvidia. Miyoshi said the bank bought Nvidia shares five years ago when the yen was strong, and by fiscal 2024, the positions had grown about tenfold. Iyogin has continued investing in AI, semiconductor stocks, and other growth sectors at home and abroad.

Foreign Capital Retreats: Yield Appeal Weakened by Policy Concerns

On a nominal return basis, JGBs are not unattractive. For dollar investors, the 30-year JGB offers an implied yield of more than 6% after FX hedging, about 170 basis points higher than comparable US Treasuries.

But such yields are not enough to offset policy and volatility risks. Brandywine portfolio manager and senior research analyst Carol Lye said the firm recently trimmed exposure to JGBs and sold its 30-year positions, reallocating some funds to UK gilts. She said Japan is in a "deep negative real rates environment," and the BoJ is behind in its policy response. Even if JGB valuations have improved, “structural supply-demand dynamics remain complex.”

T. Rowe Price portfolio manager Vincent Chung bought JGBs in January this year after underweighting for a year, but scaled back again a month later due to rising fiscal concerns. He said the trade faces headwinds from fiscal expansion, changing demand structure at the long end, and the BoJ’s continued balance-sheet reduction.

Lei Zhu, Head of Asia Fixed Income at Fidelity International, also said volatility remains the main constraint for building substantial long-dated JGB positions. She favors the 3- to 5-year segment, where policy is more visible and the balance between yield compensation and volatility risk is better.

Policy Path Key: Market Awaits Clearer BoJ Signals

Miyoshi expects the BoJ policy rate to rise to around 1.5% by the end of next year. He also noted the BoJ may accelerate tightening, including a 50 basis point rate hike instead of the usual 25 basis points.

The market widely expects the BoJ to raise the policy rate to 1.0% at this week’s meeting. This will be the first rate hike since December of last year and lift the benchmark to its highest since 1995, though it will remain low among major economies.

Miyoshi cautions that if the market begins to expect the Federal Reserve to resume rate hikes, the BoJ “will need to hike appropriately, or risk falling behind.” He worries that delayed policy normalization could aggravate inflation and further weaken the yen against the dollar.

Fiscal policy is also compounding market concerns. The expansionary fiscal agenda under the Takaichi Sanae government, including supplemental budgets and repeated calls for measures to ease cost-of-living pressures, makes investors worry that fiscal and monetary policies are pulling in opposite directions. Shinichiro Arie stated that if the market perceives the Takaichi government is pressuring the BoJ, concerns about delayed BoJ policy may resurface. He said that changing his underweight JGB stance depends on the government halting interference with monetary policy.

Who Will Absorb Supply Is Still the Core Long-End Bond Market Issue

With the BoJ gradually reducing bond purchases, the focus is whether private sector demand can absorb government bond supply. Though domestic yields have risen significantly, life insurers and pension funds so far show little sign of large-scale repatriation of overseas assets.

Some investors are starting to see value at the long end. Mark Dowding, Chief Investment Officer for Fixed Income at RBC BlueBay Asset Management, said the 30-year JGB yield above 4% is now attractive and the firm has taken a long duration bias. He believes if the BoJ does the right thing—hikes rates this month and gives guidance about ongoing policy normalization this year—the long-end bond market could continue recovering from oversold levels.

Schroders fixed income portfolio manager James Ringer, however, said the firm is more focused on curve trades rather than outright JGB exposure. He said he needs to see a clear willingness from the BoJ for further tightening before turning more positive. Otherwise, it will be hard for long-dated JGBs to sustain meaningful outperformance.

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