It may trigger a rotation of trillions of yen in funds! The surge in yields has rekindled attractiveness, and calls for GPIF to increase its holdings in Japanese bonds are rising.

As Japans government bond yields surge, analysts suggest that one of the world's largest pension fundsthe Government Pension Investment Fund (GPIF) of Japanmay have ample reason to consider raising its domestic bond allocation target from the current 25% in pursuit of higher returns. According to data from GPIF, the fund has recorded losses in its domestic bond investments for seven consecutive quarters as of the April to June period this year. This loss has been attributed to the continuous decline in the Japanese bond market, with the benchmark 10-year government bond yield nearing 3%, a level not seen in nearly 30 years. However, analysts believe that the sharp rise in yields may actually make them attractive to investors again. Koji Okuda, Executive Researcher at Daido Life Research Institute, stated, It is reasonable to consider adjusting the allocation ratio when the rise in yields improves the expected return on domestic bonds. He pointed out that the economic situation has changed since the original target was set, and GPIF is now fully in a position to reassess whether its current weighting remains appropriate. Given the funds enormous size, its asset allocation decisions are closely watched by global market participants. As of the end of June, the fund was managing approximately 318 trillion yen (about $2 trillion). This means that a 1 percentage point change in its allocation could potentially trigger more than 3 trillion yen in capital flow. Meanwhile, Japanese Prime Minister Sanae Takaichi and Finance Minister Shunichi Suzuki have also intensified pressure on the pension fund, urging it to channel more funds into the domestic market. Okuda further noted, After thoroughly assessing expected returns and risks under various economic scenarios, considering an increase in the domestic bond allocation ratio to between 30% and 35% would be worth considering. Currently, signs of renewed demand for domestic bonds are already emerging. Japans largest life insurer, Nippon Life Insurance, indicated last week its intention to become a net buyer of Japanese government bonds next fiscal year, given the current attractiveness of interest rates. Increasing the domestic bond allocation would also impact the currency market. Based on GPIF's holdings data from the end of June, Okuda calculated that if foreign bonds were reduced and the domestic bond proportion increased to 30%, approximately 16 trillion yen would need to be purchased; if the target were 35%, the buying scale would expand to 32 trillion yen. Japans Minister of Health, Labour and Welfare, Kenichiro Ueno, who oversees GPIF, stated in July, If necessary, we will adjust the basic investment portfolio. However, he also emphasized that the fundamental principle of investment is to generate returns for pension beneficiaries. A GPIF spokesperson stated that the fund does not believe there is a significant difference between the current investment environment and the original expectations for its portfolio. The depreciation of the yen is also closely watched by investors. Kiyoshi Ishigane, Chief Fund Manager at Mitsubishi UFJ Asset Management, mentioned that considering foreign exchange risks, "it would not be surprising to start thinking about reducing overseas assets and increasing the proportion of domestic bonds." However, some analysts have expressed skepticism about adjusting the target allocation ratio. Takahiro Niimi, a senior economist in the Policy Research Department at NLI Research Institute, noted that if GPIF increases the weight of domestic bonds, it may have to take on more risk through other assets to achieve its investment return goals. The adjustment threshold is quite high, he said. Kenji Shiomura, a researcher at Daiwa Institute of Research and a former GPIF official, believes that current interest rates have not significantly risen when excluding wage growth factors, hence whether to increase the weight of domestic bonds remains unclear. There are also views suggesting that rather than changing allocation targets, simply rebalancing the GPIF's assets would be sufficient. After experiencing a record surge, the Japanese stock market has become overvalued, prompting investors to shift their focus to other assets like domestic bonds. Masaki Kuwahara, a senior interest rate strategist at Nomura Securities, pointed out that as part of the rebalancing, GPIF injected 5.7 trillion yen into Japanese bonds during the April to June period, marking the highest quarterly record since the fiscal year 2020. The current basic investment portfolio of GPIF, effective until the fiscal year ending March 2026, targets a long-term nominal wage growth rate plus 1.9 percentage points, aiming to achieve this level while minimizing risk. In the past, GPIF has adjusted its allocation mid-cycle to meet return targets. For instance, in October 2014, based on the expectation that deflation was about to ease, the fund significantly reduced its domestic bond allocation from 60% to 35%, while increasing the allocations to domestic and foreign stocks from 12% to 25%, respectively.