JGBs steady, Nikkei gains offset softer Fed bias

By Naomi Tajitsu

TOKYO, March 22 (Reuters) - Japanese government bonds were little changed on Thursday as a rise in Tokyo share prices offset the positive impact of a softening in the Federal Reserve's bias toward higher interest rates.

The Fed held interest rates steady at 5.25 percent on Wednesday and said it remained uneasy about inflation, but dropped an explicit reference to the possibility of taking rates higher, leaving its options open.

Turnover in JGBs was sluggish, and the benchmark 10-year yield hovered at a one-year low of 1.560 percent in quiet trade as investors returning from a Japanese market holiday stuck to the sidelines before closing their books for the year on March 31.

"There is now a possibility of the Fed cutting interest rates but share prices are higher, so the overall impact is neutral," said Chotaro Morita, interest rate strategist for Deutsche Securities.

U.S. Treasuries rose on Wednesday after investors interpreted the Fed's policy statement as signaling its next move may be to cut rates.

But in the end, the Fed's decision to soften its tightening bias may end up having a positive impact on global risk assets such as equities and temper gains in JGBs, Morita said.

June 10-year JGB futures 2JGBv1 were down 0.02 point at 134.78 at the end of the morning session. Japanese financial markets were closed on Wednesday for a national holiday.

JGB losses were muted given a 1.7 percent climb in the Nikkei share average .N225 at midsession, following two days of gains.

"There's not a lot of direction in the market heading into the fiscal year-end," said Makoto Yamashita, chief JGB strategist at Lehman Brothers.

The benchmark 10-year JGB yield was flat at 1.560 percent JP10YTN=JBTC, matching a one-year low struck on Tuesday.

The 20-year yield JP20YTN=JBTC slipped half a basis point to 2.020 percent. Longer maturities have been supported on last-minute buying by pension funds and other investors.

The two-year yield JP2YTN=JBTC inched up half a basis point to 0.790 percent, squeezing the spread between two- and 10-year notes to 77 basis points, the narrowest in nearly four years and ironing out the yield curve.

Market participants said they were lightening positions in shorter maturities to make way for a 1.7 trillion yen ($14.5 billion) auction of two-year notes on Friday.

Analysts said that shorter maturities could be the most vulnerable to selling through the end of the month, which could continue to flatten the yield curve in the very near term.

But some said investors could shed other JGB positions when the new fiscal year begins next month.