Credit derivatives volumes in Japan have dropped by 30-40% year-on-year and there seems little chance of an immediate pick up, bucking a global trend of huge growth in the derivatives markets' hottest product. The rest of Asia was recording a jump in trades before the SARS virus cut volumes across all products.
"Spreads will likely remain tight for the near future," said Stephane Delacote, head of credit trading at BNP Paribas. "We need more convertible bond issuance or serious bad news in Japan to reverse this tightening trend," he added.
One credit head at a bulge bracket house blamed the drop in volumes on low volatility. "Last year you had stuff like the accounting scandals, Japan's government promising reform measures and jumbo offerings of convertible bonds. Now it's April and it's like, 'hello, nothing's happening yet,'" said the credit head. He also attributed the tightness of spreads to the lack of domestic protection buyers in Japan.
"There's a paradox here," said Jason Rogers, head of credit research at Barclays Capital in Tokyo, "There's the falling equity market but at the same time credit spreads are tighter. This suggests technical factors are driving the market---not the fundamentals." Market officials said low volatility, coupled with the chronic lack of protection buyers in Japan, means spreads have tightened significantly this year, which in return has driven away interest in the products. For example, five-year yen-denominated protection on Fujitsu, one of the more liquid credits, has tightened from a mid-point of 210 basis points in early January to around 118bps last week.
The drop in convertible bond issues and the lack of volatility has caused overseas funds, the primary buyers of protection in Japan, to move elsewhere. "The concept of credit derivatives as an effective tool to mitigate credit risk is still new in Japan," said Rogers.
