Yen at 112 Seen by Loomis Waiting on JGB Reentry: Japan Credit

Dec 19, 2013 12:41 am ET

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Dec. 19 (Bloomberg) -- Dan Fuss, whose Loomis Sayles Bond Fund beat 97 percent of rivals over the past three years, is holding off on buying Japanese sovereign bonds as Prime Minister Shinzo Abe’s policies may weaken the yen by another 8 percent.

The depreciation toward 112 per dollar “would be in the realm of being quite possible, or even probable over, say, the next 12 months,” said Fuss, whose fund had no yen-denominated assets as of Oct. 31. “I imagine that the initial move will be into government debt but with the currency at a different level and perhaps yields at a different level.”

Fuss and Barclays Plc both expect Japan’s benchmark 10-year rate to rise above 1 percent next year from 0.66 percent yesterday, compared with 2.88 percent for equivalent U.S. Treasuries. The Bank of Japan’s record stimulus has helped push inflation almost half-way to its 2 percent target and bolstered business confidence. Fuss’s yen outlook is more bearish than the median estimate of analysts polled by Bloomberg News for 109 by the end of next year.

“At some point, we’ll be in the JGB market,” Fuss said in an interview in Tokyo on Dec. 12. “Abenomics gets it going, the rest gets filled in by other people. That’s my hope. And as time goes by we will invest behind that hope.”

Fed Tapers

The yen touched the weakest since October 2008 at 104.37 per dollar today, after the Federal Reserve began unwinding its record stimulus. It strengthened 0.2 percent to 104.13 per dollar as of 9:11 a.m. in Tokyo today and was at 142.49 per euro after dropping to a five-year low of 142.90 yesterday. A weaker currency typically enhances exporters’ competitiveness while boosting inflation through higher import costs.

The Fed’s Chairman Ben S. Bernanke is trimming monthly bond purchases to $75 billion from $85 billion, citing “cumulative progress” and improved outlook for the job market. The central bank said its benchmark interest rate is likely to remain low.

Japan’s Government Pension Investment Fund may help hasten Fuss’s investment in the country as the world’s largest manager of retirement savings considers reducing holdings of yen debt. The 124 trillion yen ($1.2 trillion) GPIF should increase allocations in higher-yielding assets including stocks and foreign assets, an expert panel said last month.

The nation’s 43 life insurers owned 149.5 trillion yen of JGBs as of Sept. 31, up 3.1 percent from a year earlier and accounting for 43 percent of their portfolios, the latest data from the Life Insurance Association of Japan show. Foreign securities made up 17 percent, the second-biggest allocation.

“One thing they can do is shift their weighting of bonds between local and foreign, and therefore increase their riskier assets,” said Nick Wright, Barclays’ head of equities and co- head of trading for Asia Pacific region, referring to domestic investors including pension and mutual funds.

Pimco’s Outlook

Pacific Investment Management Co., the world’s largest manager of bond funds, expects the impact of Abe’s stimulus program to fade next year and economic growth to slow.

“Japanese government bond yields are artificially low and will likely to be so in the near term, with their risk premium compressed by the BOJ’s aggressive quantitative easing,” Tomoya Masanao, Pimco’s head of portfolio management for Japan, wrote in the company’s quarterly economic outlook. “Investors should be cautious at the current level of JGB yields.”

The 10-year yield is set for the lowest year-end close on record going back to 1987 and was 1 percentage point below the dividend yield for Topix Index of domestic shares, almost half the gap in July 2012. A similar spread in the U.S. is minus 94 basis points, near the least since July 2011. A basis point is 0.01 percentage point.

Topix Draw

The Japanese stock gauge has outperformed its major peers, surging 47 percent this year and drawing record inflows from overseas. The Topix dividend yield was at 1.68 percent, down from as high as 2.71 percent in June 2012, when the 10-year JGB rate was at 0.815 percent.

Buyers from outside Japan pumped 12.9 trillion yen into the nation’s stocks this year through November, Tokyo Stock Exchange data show. The inflows surpassed a record set in 2005.

“The major interest in Japan would obviously be on the stock side, and that would happen very, very fast,” said Fuss, who helps manage $193.5 billion of assets. “It’s a reflex action: when stocks start to move in Tokyo, you don’t have to get on an airplane, you just push a button.”

BOJ Governor Haruhiko Kuroda and his policy board are buying more than 7 trillion yen of Japanese government bonds every month to foster inflation and 3 percent nominal growth. JGBs handed investors 2.5 percent this year, while U.S. Treasuries lost 2.8 percent, according to Bloomberg data.

The Tankan index for business confidence among large manufacturers rose to 16 in the fourth quarter, the highest in six years and up from 12 in the three months ended September, according to BOJ data. A positive number means optimistic views exceed pessimistic opinions. Consumer prices excluding fresh food increased 0.9 percent in October from a year earlier, the fastest pace since November 2008, government figures showed.

“It’s watch and wait at this point” for Japanese investment, Fuss said. “It will really take a stronger economy.”

--Editors: Pavel Alpeyev, Ken McCallum