The world champions of negative-rate investing are piling into long-term dollar swaps, an indication they see nothing to tempt them in the Japanese market for a very long time.
Yen-dollar basis for 30-year contracts plunged to its most negative this year in late May, and has stayed near those levels even after the Federal Reserve flooded markets with liquidity. That’s indicative of how Japanese investors are paying a higher premium to swap their currency for dollars for the long-term.
As investors tussle with strategies in a virus-stricken world, where unprecedented liquidity from central banks is driving every market, the Japanese are diving deeper into riskier assets. With the Bank of Japan predicting that negative rates will stay through to 2023, there’s little incentive to hold onto the yen.
“The presence of the Japanese as the main carry trade driver seems to be growing as they must turn to overseas investments,” said Eiichiro Miura, general manager of the fixed-income department at Nissay Asset Management Corp.
Thirty-year cross-currency basis for yen-dollar dropped to a record low of minus 76 basis points in May, and was at minus 64 basis points on Thursday. That’s a gauge of how flush banks and investors are with yen as they seek to swap it for the greenback. The BOJ said Wednesday it would provide ample liquidity without any limits.
Demand for higher-yielding American assets has been growing. In April, Japan’s money managers bought the most U.S. corporate debt in eight years and the second-highest amount of equities in five years, according to the latest Treasury Department data.
“Japanese investors use yen to fund purchases of Treasuries or U.S. corporate bonds, for instance, to seek credit spreads and these flows are continuing,” said Koichi Sugisaki, a strategist at Morgan Stanley MUFG Securities Co. in Tokyo. “Japan as a capital exporter cheapens yen’s premiums. That is reflected in the difference in cross-currency basis swaps.”
The rush to dump yen is one reason why the traditional haven currency hasn’t strengthened against the dollar even during the peak of the coronavirus fears, according to Nissay’s Miura.
Japanese investors will have a bigger influence in currency markets, shading the foreign carry-trade flows where overseas funds borrowed in yen to invest in higher-yielding assets, he said.
“Carry trade incentives seem to be getting stronger for Japanese investors while transactions by short-term foreign players shorting yen to lock in higher-yielding assets appear to be decreasing,” said Miura.
— With assistance by Stephen Spratt
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