RPT-JGB market struggles as volatility seen persisting

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By Rika Otsuka

TOKYO, May 13 (Reuters) - Trading activity in Japanese government bond futures has thinned to the smallest in three years after two months of sharp swings that have prompted investors to pull out funds, making the market vulnerable to more volatility in the weeks ahead.

In late April, JGB futures posted their biggest one-day drop in five years as expectations for a Bank of Japan interest rate cut receded, with some investors shifting their sights towards an eventual rate rise.

It is expected to take at least several more weeks before trading volume starts to pick up as investors are unlikely to recover from losses in bond holdings, as well as the memory of a sharp sell-off that caused the wounds in their portfolios in the short term.

"The market is shrinking in a negative way," said Mari Iwashita, chief market economist at Daiwa Securities SMBC. "The situation is so bad that market players cannot plant seeds that would bear fruit in the future."

Foreign investors such as relative value hedge funds, which are big players in JGB futures, have been exiting the market after being forced to unwind bad positions in late March, suffering hefty losses.

Foreign investors sold a hefty 859 billion yen of Japanese bonds in the week ended May 3, taking their net selling since mid-March to 2.73 trillion yen ($26.3 billion). Click on [JP/CAP]

Japanese banks, historically the main investors in five-year JGBs, dumped government debt aggressively as they were also badly burnt by the recent bond slump.