TOKYO, July 27 (Reuters) – Japanese government bonds gained on Tuesday, with futures climbing towards a seven-year peak, as investor purchases of superlongs before the month’s end added to a flattening in the yield curve.
A 2.6 trillion yen ($29.9 billion) auction of two-year government debt attracted solid demand, with the market increasingly secure in the view that the Bank of Japan will either keep rates low for the foreseeable future or ease monetary policy further.
The 0.2 percent coupon auction produced the highest bid-to-cover ratio in five years, at 5.67 from 4.31 at the last sale in June. [ID:nMOFG15004]
“The higher-than-expected lowest price at the auction suggests investors bid directly in the primary market instead of going through brokerages,” said Keiko Onogi, a senior JGB strategist at Daiwa Securities Capital Markets.
“It reflects deepening easing expectations, enhanced after the Fed’s stance last week.”
The market is focused on an uncertain outlook for the global economy now that Europe’s bank stress tests are out of the way.
Fewer-than-expected banks failed the stress tests but the JGB market reaction was limited with concerns about the banking system remaining amid criticism the tests may have been too lax.
Indicators in focus include U.S. June durable goods orders due on Wednesday and second quarter GDP on Friday.
Federal Reserve Chairman Ben Bernanke fuelled speculation of further easing last week when he said the U.S. economy faced “unusually uncertain” prospects, and Treasuries rallied with the 10-year note yield US10YT=RR falling to a 15-month low.
Market players said how Treasuries fare may be key for the JGB market.
“Treasuries are holding firm considering that U.S. stocks are doing relatively well, supported by prospects for further easing,” said Makoto Noji, a senior market analyst at Mizuho Securities.
“How Treasuries perform will be key, as a rise in U.S. long-term rates may drive the yen lower (against the dollar) and in turn lift stocks and hurt JGBs. On the other hand, a further decline in U.S. long-term rates would have the opposite effect.”
September 10-year futures 2JGBv1 gained 0.12 point to 141.86 after hitting a seven-year peak of 142.08 last week.
Trade in futures was thin at around 18,800 lots, compared to last week’s daily average of 23,300 lots.
The five-year yield JP5YTN=JBTC edged down 0.5 basis point to 0.345 percent.
The benchmark 10-year yield JP10YTN=JBTC fell 1 basis point to 1.050 percent, edging closer to a seven-year low of 1.045 percent hit last week.
The 20-year yield dropped 2.5 basis points to 1.745 percent.
Purchases by index-following pension funds pulled down superlong yields, said a dealer at a foreign securities house.
The five-year/20-year yield spread tightened by 2 basis points to 140 basis points, its flattest in a year.
Duration extensions by index players at the month’s end have added to flattening pressure on the yield curve, as investors like domestic banks buy more superlongs for their higher returns. (Editing by Edwina Gibbs)
EU bank stress tests face their own test in markets
(Reuters) – EU tests of banks’ ability to withstand financial shocks, criticized as too easy after only 7 out of 91 failed, face their own stress test in the markets on Monday with early signs pointing to a more positive response.
European Union policymakers and regulators voiced relief at Friday’s results but some market analysts and many media commentators derided an exercise in which all listed banks passed as lacking in credibility.
“I see nothing stressful about this test. It’s like sending the banks away for a weekend of R&R,” said Stephen Pope, chief global equity strategist at brokers Cantor Fitzgerald.
There was skepticism about EU regulators’ conclusion that banks need only a total of 3.5 billion euros ($4.5 billion) in extra capital. Market expectations had ranged from 30 to 100 billion euros, although many European banks have already raised capital during the financial crisis.
Only five small Spanish banks, Germany’s state-rescued Hypo Real Estate and Greece’s Atebank failed outright. More than a dozen others scraped through with just over the required 6 percent of Tier 1 capital in the most stressful scenario and are likely to come under market scrutiny.
However, the wealth of data disclosed by banks representing 65 percent of assets, and the commitment of banks, regulators and governments to follow-up action may well outweigh doubts about the stringency of the tests.
In a first market reaction in New York late on Friday, the cost of insuring the debt of large European banks fell further and the euro rose against the dollar despite worries about the tests’ credibility.
Better-than-expected economic data and business confidence surveys suggesting the euro zone will avoid a double-dip recession despite fiscal austerity measures are also helping revive investor confidence in Europe.
HAGGLING
Given the haggling among EU governments and regulators about the stress tests right up to the last moment, the degree of transparency was greater than had been expected a few weeks ago.
Sources familiar with the discussions said Germany fought hard behind closed doors to limit the extent of disclosure.
In the end, most banks — except Deutsche — issued a detailed breakdown of their exposure to the sovereign debt of EU countries, enabling investors to run their own risk simulations to gauge a counterparty’s solidity.
“We have all the sovereign exposure data, and we can go ahead and do our own tests,” said Nial O’Connor, a banking analyst at Credit Suisse.
That should help reopen the interbank lending market, which partially froze at the height of the euro zone debt crisis in May and has remained tight due to fears that banks have been hiding big exposures.
It also responds to one of the major criticisms of the exercise — that the scenario assumed a “haircut” on sovereign debt of countries such as Greece held in banks’ trading books, but not on a longer-term basis in their banking books.
The EU authorities were chastised for refusing to test the impact of a default by Greece.
But European Central Bank governing council member Christian Noyer said euro zone states “have put several hundreds of billions of euros on the table with the support of the IMF to make this hypothesis completely excluded.”
TRANSPARENCY
Spain, which spearheaded the drive for transparency, tested a larger part of its banking system and disclosed more data than any other country, hoping to clear away lingering market suspicion of its smaller banks’ solvency.
However economist Nicolas Veron of the Bruegel think-tank said Madrid had underplayed the recapitalization needs of the cajas, regional savings banks, although its bank resolution fund (FROBE) is well on the way to meeting those needs.
“The Spanish wanted to be seen as the most transparent and deserve praise for the catalyst role they played, but in the end they clearly understated what the cajas need,” he said in a telephone interview.
Veron said follow-up actions by governments and regulators should include pressing weaker banks to recapitalize, if necessary with state help and facilitating cross-border takeovers of weaker banks.
Even before the results were published, National Bank of Greece, Slovenia’s NLB and Civica in Spain announced plans to raise capital.
Italy said it would reopen an offer of government-backed bonds to support its banks, although none failed. Monte dei Paschi di Siena squeaked through with 6.2 percent of Tier 1 capital under the most stressful scenario, and UBI Banca with 6.8 percent.
Veron said the success of the exercise would depend partly on whether European regulators adopt a more cooperative approach after the stress tests than they did before them.
“If this is the start of a beautiful friendship among EU supervisors, then that’s not the same as if the united front crumbles next week and they start criticizing each other again,” he said.
(Editing by Andrew Roche)