The Japanese government and major Japanese banks, such as the Bank of Tokyo-Mitsubishi and Sumitomo Mitsui Banking Corp., saw their credit ratings downgraded by Fitch Monday, prompting a flurry of trades in the credit-default swap market. "Things are absolutely crazy," said Ralph Orciuoli, managing director of structured credit products at Bank of America in Tokyo, noting that volumes on the sovereign surged to around USD100 million per day early last week from USD30-50 million in a typical week. Spreads on 10-year protection on the sovereign jumped from 27-32 basis points to 33-37bps last Wednesday, he noted.
A credit trader in Tokyo said bondholders hedging their exposure were driving activity. "There's a lot of nervousness," said the trader. He added that although Japan has been in an economic downturn for over 10 years, it is coming under the microscope now because of the global slowdown and the absence of reforms that were promised by Prime Minister Jinichiro Koizumi. "The real magnitude of the problems are becoming apparent," said the trader. He continued that much of the trading was seen in the Japanese government bond market but was trickling into the credit derivatives market. "JGB's look cheap," he declared. The trader continued that many investors were purchasing JGB's then entering cross-currency interest-rate swaps while hedging the credit risk through purchasing protection via credit-default swaps.
Fitch downgraded Japanese sovereign debt to AA from AA plus, Bank of Tokyo-Mitsubishi to A from A plus and Sumitomo Mitsui to A minus from A. All the new ratings are on negative outlook.
