Japan’s Two-Year Yield Hits Highest Since 2008 On Rate-Hike Bets

Japan’s two-year note yield rose to its highest level since 2008 and the yen gained against the dollar on growing speculation an interest-rate increase by the Bank of Japan is getting closer.

The two-year rate, which is sensitive to monetary policy expectations, increased 1 basis point to 1% ahead of a speech by BOJ Governor Kazuo Ueda in Nagoya. Japan’s currency strengthened as much as 0.3% to 155.71 against the dollar.

“Growing expectations of a BOJ rate hike are helping the yen appreciate and putting upward pressure on the two-year JGB yield,” said Hirofumi Suzuki, chief FX strategist at Sumitomo Mitsui Banking Corp. “Governor Ueda’s comments today should be most important catalyst. If he sounds more hawkish than expected I would expect this trend to continue.”

The swap market is now pricing in about a 62% chance of a rate hike when BOJ delivers its next policy decision on Dec. 19, with the likelihood rising to almost 90% by its January gathering. That compares with 30% for a December move just two weeks ago.

Separately, the Ministry of Finance plans to increase its issuance of short-term debt to help finance Prime Minister Sanae Takaichi’s economic package, adding issuance of two- and five-year notes by ¥300 billion ($1.92 billion) each and Treasury bills by ¥6.3 trillion. That’s set to weigh on shorter-end sovereign bonds.

It’s “prudent to remain cautious” about bonds right now, said Ryutaro Kimura, senior fixed-income strategist at AXA Investment Managers. The market has to take into account “the anticipated re-acceleration of inflation under the fiscal expansion of the Takaichi administration and the deterioration in the supply-demand balance due to a substantial increase in medium-term JGB issuance.”

The mounting speculation of a December hike comes as the yen has slumped 5% against the dollar this quarter, making it the worst performer among Group-of-10 currencies. Japan’s inflation has been consistently running above the BOJ’s 2% target, fueling criticism that the central bank is behind the curve in raising rates.

A two-year note auction late last week met weak demand, indicating how investors are cautious given the increasing rate hike risk.