Bank of Japan moves needle for bond investors and issuers
The Bank of Japan has long been the driver of yields in the government bond market. It has increasingly become a key player in corporate bonds as well, creating opportunities for issuers and investors alike.
Two key dates this year stand out, amid the pandemic, for capital markets bankers in Japan.
On April 27, the Bank of Japan said it would boost its existing holdings of commercial paper and corporate bonds to as much as ¥20tr ($188.7bn) from around ¥5tr, part of its monetary easing policy to combat the impact of Covid-19. It also added purchases of corporate bonds with tenors up to five years, expanding its previous policy of buying bonds with maturities of three years or less.
These measures were due to expire at the end of September. But on May 22, the central bank gave another boost to market sentiment, promising to keep its new asset purchase scheme in place until the end of March next year.
“Japan’s domestic bond market had been in turmoil until then and supply had been limited due to the Covid-19 outbreak,” says Haruhiro Ikezaki, managing director of debt capital markets at Mitsubishi UFJ Morgan Stanley Securities. “But after BoJ announced the corporate bond purchase programme, market sentiment improved drastically.”
And how. Yen bond issuance in Japan jumped from ¥18.66bn from 68 deals in March to ¥26.8bn and 86 transactions in June, before soaring further to ¥33.4bn albeit from a slightly fewer 80 trades in July, shows Dealogic data.
That gave July the highest level of monthly volume ever recorded in the country, while the 2020 yearly volume is on track to be the largest ever in the history of Japan’s bond market, reckons Shunosuke Nagata, MD and head of Japan global capital markets at Bank of America.
Hiroshi Oikawa, director and head of Japan DCM syndicate at Bank of America, says more corporations have been funding in the three to five year maturities since the central bank’s announcement.
“The huge issuance in July came as a little bit of a surprise, but that was only to be expected as issuers were not able to raise much funding earlier because of the Covid situation,” he says.
Bonds have been printed by firms from a range of sectors, such as transportation, real estate and retail, while deals have also come from government-linked borrowers and agencies.
BoJ’s move to shore up confidence among investors was necessary — even if it comes at the expense of the long-term health of its own balance sheet.
The pandemic has caused a sharp economic downturn in Japan, with real GDP expected to contract by 5.8% in 2020, according to projections by the International Monetary Fund. By early September, the number of coronavirus cases was approaching 72,000, with about 1,362 deaths reported, according to official government data.
The BoJ’s April announcements offered the market some respite. In addition to the pick-up in bond purchases, it also put in a place a wider Covid-19 support package — both giving a boost to overall sentiment.
The bond purchase scheme has since certainly helped issuers, which were able to seal even cheaper bonds than before. But it also led to some much-needed, albeit small, changes in investor behaviour.
Bankers in Tokyo say that as investors are on the hunt for yield, proving increasingly willing to pump some of their money into lower-rated or subordinated bonds.
“When Covid cases really increased, investor risk appetite went down,” says Oikawa from Bank of America.
“They were only investing in single-A or double-A names. But after the BoJ stepped in, investors gained confidence and have invested in subordinated or hybrid deals and bonds rated triple-B.”
For five year transactions, investors can get a significant pick-up of as much as 100bp or more, depending on the kind of credit, by buying deals lower down the credit curve, adds Oikawa.
That shift in buying behaviour may help investors over the longer term, if fears among a number of bankers about a rise in downgrades of corporations come true.
In June, S&P Global Ratings changed its outlook on Japan to positive from stable. The following month, Fitch revised its long-term outlook on A-rated Japan to negative from stable, on the back of the coronavirus impact on the government’s debt levels and the country’s growth prospects. A decision from Moody’s is still pending after the agency completed its period review of Japan at the end of July.
In early August, the outlook of three of Japan’s largest banks — Mizuho Financial Group, Mitsubishi UFJ Financial Group and Sumitomo Mitsui Trust Bank — was changed to negative from stable by Fitch.
Downgrades of corporations has also taken place, with Toyota Motor Corp, for example, lowered to A+ from AA- by S&P in May. Similar downgrades of other corporations by the three big ratings agencies are expected this year, say bankers.
Ikezaki says credit ratings are always very important for Japan’s investors, who are keen to mainly buy bonds rated single-A or better. “But ratings of many companies are going to triple-B and to double-B, and the investor base for double-B names is still premature at the moment.”
Corporations rated double-B tend to turn to the loan market for their financing, but this can create bigger problems in the long term, warns Ikezaki, if there is excess reliance on banks.
Amid these changes, how have Japanese investors fared in 2020?
The BoJ policy has not just been a boon for the country’s issuers, which have been able to price tighter bonds than before. Investors have also seen some windfall come their way.
Juicy returns have been elusive in the domestic debt market since the central bank introduced the negative interest rate policy in January 2016, when it begin guided short-term rates to minus 0.1% and long-term borrowing rates to around zero. It has purchased a wall of government bonds and risky assets, keeping money flowing into the economy but also depressing yields.
The April change in regulation effectively means investors buying bonds — only those eligible under the BoJ programme — in the primary market are able to sell to the BoJ in the secondary market at a better yield. The central bank only buys secondary bonds, creating an exploitable strategy for investors.
Akihiro Igarashi, executive director and head of debt syndicate at Nomura, says accounts can “make good money” through this, which is why many investors are focusing on BoJ-related trades.
He adds that the announcements pushed yields on three year bonds lower by about 10bp. “But even if an investor buys a bond at 0% coupon, they can still make a profit as they can sell it to the BoJ at a slightly lower yield,” he says.
On the five year corporate bond curve, bonds tightened by 5bp-10bp. This is mainly because five year is a “sweet spot for issuers and investors”, meaning there are more outstanding five year corporate bonds than three year. But the BoJ buys a larger amount of three year notes when compared to five year bonds, giving less scope for tightening in the three year part of the curve.
Japan’s investors are likely to flock to deals until March 2021, when the BoJ’s additions to its bond-buying policy are set to end. Bankers say yen bond supply will continue unabated for the rest of the year as borrowers ride on the central bank support. After that? No-one wants to think about it, but a few bankers GlobalCapital spoke to say they hope it will be extended.
Fresh faces bring optimism to Japan DCM
Are innovation and diversity coming to Japan’s highly conservative market? There is reason to be optimistic.
In late August, property developer Hulic Co said it would sell a sustainability-linked bond — a first from a corporation in the country. The firm is seeking ¥10bn from the 10 year bond, to be printed in October, with the coupon set for a 10bp boost if the borrower proves unable to meet either of its two green targets by 2025.
One of its goals is to develop a solar power system so that all of its buildings get their power from renewable sources. Its second objective is to build a 12-storey fire resistant facility in Tokyo, using locally sourced wood.
Akihiro Igarashi, executive director and head of debt syndicate at Nomura, says Japan is seeing “strong appetite for ESG bonds”, with interest from issuers and investors. Initially, life insurance companies were the biggest ESG investors, but as more supply hits the market, other accounts are also keen to buy these products, he adds.
“If we continue to see an expansion of the investor base, SRI issuers may be able to price tighter,” says Igarashi.
That’s not the only development this year. A new issuance sector is also likely to emerge soon. The University of Tokyo is laying the groundwork for the first bond in the country from the university education industry, with plans to raise ¥20bn from a possible 40 year outing in early October.
Its decision to tap the capital markets follows a rule relaxation from the Japan education ministry in June. Before, national universities could only sell bonds if they needed to finance their affiliated hospitals or other projects that are limited in nature. But the rule change means universities can now also fund their research and education projects through bonds.
The University of Tokyo deal, if and when it happens, will be a landmark for Japan. But bankers point to an important caveat — that the university is among the most established and well-known schools in Japan. It is rated AA+ by Japan Rating and Investment Information and AAA by Japan Credit Rating Agency.
“It is an exceptional university and has a [strong] rating,” says Haruhiro Ikezaki, managing director of debt capital markets at Mitsubishi UFJ Morgan Stanley Securities. “They can do a good deal, but other universities are of a much smaller scale. A new market will develop with this deal, but it won’t get much bigger anytime soon.”