Hedged Yield Nears 6.5%! BNP Paribas Asset Management Adds to Ultra-Long Japanese Bonds as Overseas Funds Bet on Curve Steepening and Return of Domestic Demand

BNP Paribas Asset Management has been adding to its ultra-long Japanese government bond positions, attracted by the steep yield curve and signs that domestic demand is returning to the market. James McAlevey, the firm's head of global aggregate and absolute return, said the company has raised its ultra-long JGB position from "very small" at the start of the year to "medium-sized," with a focus on 20-year and 30-year bonds. "We prefer the long end of the market because the curve is very steep," McAlevey said at a briefing in Tokyo. He said the sector has recently "significantly outperformed other long-end varieties globally," providing a source of diversification. In some flexible strategies, the firm is short 2-year and 5-year JGBs while long 20-year and 30-year bonds, essentially betting on the yield curve flattening. The bullish stance comes as ultra-long JGB yields have risen to multi-decade highs this year amid concerns over inflation, fiscal spending and the Bank of Japan's policy path. Elevated yields are increasingly drawing buyers in, with the most recent 20-year bond auction recording record demand. According to McAlevey, ultra-long JGBs yield about 6% to 6.5% on a USD-hedged basis, making them especially attractive to overseas buyers. By contrast, domestic Japanese investors had previously been "relatively absent" from the long end of the market, as insurers were busy dealing with impairment issues on low-coupon bonds. But the recent auction frenzy indicates that domestic demand is "coming back to the long end of the JGB curve." According to Japan Securities Dealers Association data, Japanese insurers have been net buyers of ultra-long JGBs for the past four months. Several life insurers have also signaled plans to maintain or increase purchases of domestic bonds in the second half of this fiscal year. McAlevey said the government's "relatively restrained fiscal response" would strengthen his confidence in adding further to JGB positions. He is also watching whether the BOJ can maintain its roughly once-per-quarter rate hike pace as he expects. He said the central bank does not necessarily need to hike at its next meeting, and a December hike with continued relatively hawkish communication would be sufficient. McAlevey said a stronger yen would further support the long end by helping curb headline inflation and easing pressure on the BOJ. Earlier this year, yen weakness exacerbated the dual pressure on the bond market and the central bank, but he believes that trend is beginning to reverse.