Japanese bonds will not collapse, but Japan may face a brief "triple kill" of stocks, bonds, and currency this summer
Citigroup stated that Japan is unlikely to experience a debt crisis like that during the tenure of former UK Prime Minister Liz Truss, but the yen may fall to the 150 level against the dollar in the next 2-3 months. The real "bull kill" risk in the Japanese market is closely linked to the United States, such as the extreme situation of a sharp decline in U.S. stocks while the dollar surges
The economic policy of former British Prime Minister Liz Truss once triggered a "triple whammy" of stocks, bonds, and currencies, leaving global markets apprehensive. With Japanese bonds plummeting and the yen weakening today, will Japan repeat the same mistakes?
According to news from the Chase Trading Desk, Citigroup's latest research report on June 3 believes that there is no risk of collapse in the Japanese government bond system, but the Japanese market may face a brief period of turmoil with simultaneous declines in stocks, bonds, and currencies in the summer (the next 2-3 months).
Japan is unlikely to face a bond market collapse similar to the UK's "Truss moment" in the near future. However, due to short-term investors potentially closing their long positions in the yen, coupled with Japanese companies' demand for overseas mergers and acquisitions, the yen may fall to around 150 against the dollar in the next 2-3 months. If yen interest rates continue to rise and lead to a simultaneous adjustment in the Japanese stock market, a temporary "triple whammy" phenomenon may occur. Citigroup predicts that the yen will strengthen in the medium to long term, expecting the yen to break above 140 against the dollar in the fourth quarter, and any period of yen selling may provide investors with a good opportunity to establish strategic long positions in the yen.
No Risk of Collapse in Japanese Bonds: Demand Will Recover After Short-Term Adjustment
Since April, Japanese government bonds (JGB) have significantly weakened, with the 30-year bond yield rising to about 3.2% and the 20-year yield reaching 2.6%.
Citigroup previously believed that long-term investors such as Japanese life insurers would find 20-30 year bonds attractive in the 2.0%-2.5% yield range. However, the recent rapid decline in bond prices has raised risk management issues, leading to a temporary absence of buyers. At the same time, life insurance companies have largely completed their duration matching plans that have lasted for several years, which may be another reason for the recent weakness in the Japanese bond market.
Despite the sharp drop in Japanese bond prices, Citigroup believes the risk of a collapse in Japanese bonds is extremely low.
Last week's decline in Japanese bond prices has already paused. The report suggests that yen bond yields are still sufficient to meet domestic investors' expected returns, so demand for yen bonds should gradually recover.
Summer Alert: "Triple Whammy" Looms
Citigroup warns that although there is no risk of collapse in Japanese bonds themselves, the Japanese financial market may experience a brief "difficult period" in the next 2-3 months (roughly during the summer).
During the July Senate elections, the market may increasingly worry about the Japanese government implementing more expansionary fiscal policies, which would mean further deterioration of fiscal conditions. Concerns about the Bank of Japan lagging behind the situation continue to brew in the market. Therefore, the Japanese market may be more vulnerable than usual in the coming months.
Citigroup states that it would not be surprising if the yen falls to around 150 against the dollar in the next 2-3 months. If yen interest rates continue to rise and a subsequent adjustment in Japanese stocks occurs, the Japanese market may experience a "triple whammy."
However, the recent rise in yen interest rates should improve the fundamental supply and demand situation for the yen, and Citigroup believes it will ultimately turn into a favorable factor for the yen. The bank expects the Japanese yen to break above 140 yen against the yen in the October-December period this year. If the yen falls to around 150 yen against the US dollar, investors may see it as a good opportunity to establish a strategic long position in yen from a medium-term perspective.
Is the US the "Behind-the-Scenes Director"?
Citigroup's report emphasizes a logic: the performance of the Japanese market is largely "led by the nose" by the US market. There is usually a strong correlation between the USD/JPY exchange rate and the US dollar index, Japanese stocks and US stocks, as well as Japanese long-term interest rates and US long-term interest rates.
Therefore, whether Japan will experience a true "three kills" scenario depends on what plays out in the US.
- If the US is in a "risk-off" mode (US stocks fall + US bond yields rise due to risk aversion): at this time, the dollar usually weakens, and the yen, as a safe-haven currency, may appreciate. The result could be: Japanese stocks fall along with US stocks, but the yen appreciates, and government bond yields rise. It doesn't look like a "triple kill."
- If the US is in a "growth optimism" mode (US stocks rise + US bond yields rise due to growth expectations): at this time, the dollar may not change much, but the yen usually performs the worst. The result could be: the yen depreciates, but Japanese stocks rise along with US stocks, and government bond yields rise. This also isn't a "triple kill."
Citigroup believes that a true "Japanese version of the triple kill" requires very extreme circumstances, and the likelihood of it happening recently is "very low." For example, a combination of "US stock market crash + the dollar bizarrely surging" (which is very rare) could trigger a chain reaction in the Japanese market (yen depreciation leading to inflation concerns, forcing the central bank to raise interest rates, further impacting the stock market).
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