JGBs flat as disappointment over BOJ's bond-buying offer caps

Fri Jul 12, 2013 2:46am EDT

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* Market players expect trading to remain in recent ranges

* Disappointment on BOJ bond buying operation hamper

* Implied volatilities at lowest in over 2 months

By Hideyuki Sano

TOKYO, July 12 (Reuters) - Japanese government bond prices were little changed on Friday, as disappointment over the Bank of Japan's bond buying offer and profit-taking after gains in the past few days nudged the 10-year yield off three-week lows.

The benchmark yield failed to break beyond a major support at 0.800 percent, cementing expectations that sticky trading ranges seen since late May are likely to persist as activity is seen thinning towards the height of summer in August.

The 10-year JGB futures ended 0.04 point up at 143.16 while the 10-year cash bonds were last traded at the yield of 0.820 percent, up 0.5 basis point from a three-week low of 0.815 percent hit on Thursday and again earlier on Friday.

The futures slipped after the BOJ announced its bond buying offer, which did not include purchases in 5-10 year maturities as some traders had hoped, though they recovered losses on short-covering later on.

Investors also took profits as the benchmark cash bond yield had reached near the bottom of its roughly 0.8-0.9 percent trading range in the past several weeks.

"If you look just at economic fundamentals, the world's industrial production looks set to keep recovering at least until the year-end and interest rates will naturally face upward pressure," said Tomohiro Miyasaka, fixed income analyst at Credit Suisse.

"There is downside risk in China but many investors should be expecting a gradual rise in bond yields," he added.

Hopes of a recovery in the Japanese economy also pushed Japanese shares to seven-week highs on Friday, discouraging investors to buy low-yielding JGBs.

With the market hugging the same trading range for several weeks, implied volatility of JGB options has fallen to its lowest levels in more than two months.

The reduced volatility in itself is a positive factor for the market, as it tends to encourage buying by investors, such as banks, who measures their risk exposure by gauging the level of volatility.

Still, many investors were unwilling to bid up beyond 0.8 percent in the 10-year yield.

Part of the reason for their reluctance is that many Japanese regional banks and trust banks -- the group of investors that bought JGBs soon after the Bank of Japan's massive easing was announced on April 4 -- are likely to be holding JGBs at a loss.

Assuming their average buying cost is about the same as the average yield in that month, these investors on average bought 10-year bonds at around 0.6 percent, Jun Ishii, chief fixed income strategist at Mitsubishi UFJ Morgan Stanley Securities, said in a report.

"They are probably waiting to sell into a rally if the 10-year yield falls below 0.8 percent. Signs of such offers are likely to be contributing to JGBs' narrow trading bands of late," he said.

The five-year yield rose 1.0 basis point to 0.300 percent , from Thursday's four-week low of 0.290 percent ahead of a five-year JGB auction on Wednesday.

Japanese markets will be closed on Monday for a national holiday.

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