Black Swan" is in March? Japan’s largest bank is preparing for war

A question continues to plague Tokyo's financial markets - when will the Bank of Japan exit negative interest rates? The country's largest bank expects the move to come within two weeks and is making adjustments accordingly.

Mitsubishi UFJ Financial Group Inc.'s view is more certain than the swap market, which sees a roughly 50% chance Bank of Japan Governor Kazuo Ueda will change policy this month. If he does change course, it will have a major impact on the 1,096 trillion yen ($7.3 trillion) Japanese government bond market and the yen.

Hiroyuki Seki, head of global markets business at Mitsubishi UFJ Financial Group, said in an interview: "I think it is necessary to end negative interest rates in March, not April." Seki's reason is that the Bank of Japan's March 19 After raising interest rates for the first time since 2007 at this meeting, it may raise interest rates again before October, raising the policy interest rate to 0.25%. In order to ensure future policy flexibility, the Bank of Japan "needs to raise interest rates before the next rate increase." Get enough preparation time.”

Seki said his expectations for the BOJ's actions are based on cues conveyed by central bank officials' public speeches and political and other events this year that could determine monetary policy choices. Overnight index swaps traders see a roughly 53% chance of a rate hike in March, rising to 80% as of Tuesday night.

Bank of Japan's March interest rate hike not fully priced in

Seki said there will be "structural changes" in the JGB market once the Bank of Japan ends negative interest rates and starts paying 0.1% on reserves. That could trigger a fall in demand for Japanese government bonds, pushing down their prices and pushing yields higher. Mitsubishi UFJ Financial Group holds short positions in Japanese government bonds through investment funds and overnight index swaps in anticipation of action by the Bank of Japan, Seki said.

"We are already trying to increase our tolerance for rising yen interest rates," he said. Mitsubishi UFJ Financial Group will establish swap receiver positions after short- and medium-term interest rates start to rise, as overnight index swaps are relatively Because bonds are undervalued.

Seki added that MUFG would do so once the 10-year overnight index swap reaches 1.1% or the five-year OIS reaches 0.6%. He said the group also plans to "seriously" start investing in Japanese government bonds if their overvaluation is corrected and their yields move closer to corresponding swap rates. Seki said the yield on the 10-year Japanese government bond may trend toward 1.0% and above, and the yield on the 5-year government bond may trend toward 0.6% and above.

Seki expects the BOJ to do more than just raise interest rates. When it launched its negative interest rate policy in 2016, the Bank of Japan adopted a three-tier system in which interest rates of 0.1%, 0% and -0.1% apply to balances held in the central bank's reserves. Seki said the BOJ may eliminate this system as well as negative interest rates and may impose a 0.1% interest rate on all funds held by the central bank. The Bank of Japan's policy target may also shift to the unsecured overnight lending rate, which is expected to rise to a range of 0-0.1% from the current -0.1-0%. Seki expects the BOJ to maintain control of the yield curve for some time to curb excessive volatility following the policy change. "I don't think the (yield) cap reference will be removed. It may retain more flexibility," he said.

If the Bank of Japan does raise interest rates, it would be in sharp contrast to expectations from other major central banks, which are expected to cut interest rates this year. At the beginning of 2022, the Federal Reserve launched aggressive interest rate increases, causing the yen to fall to around 150 against the US dollar. Seki said that as long as the U.S. economy avoids a sharp slowdown, the Fed's actions are preemptive and the Fed's expected rate cuts will not prevent the Bank of Japan from taking the opposite action.

He also said that Mitsubishi UFJ Financial Group remains cautious about foreign bond investments because the yield curve on U.S. Treasury bonds continues to be inverted. The end of the Bank of Japan's ultra-easy monetary policy "is also expected to curb an easing of fiscal discipline," he said, referring to public concerns that the BOJ's massive purchases of Japanese government bonds over the years have made it too easy for the government to spend deficits.

Article forwarded from: Golden Ten Data