A sell-off in bonds and stocks occurred around the world overnight as a result of the Bank of Japan unexpectedly expanding its target range for 10-year Japanese government bond yields.
In an effort to mitigate the effects of prolonged monetary stimulus measures, the central bank surprised the markets by modifying its yield curve control (YCC) policy to permit the yield on the 10-year Japanese Government Bond (JGB) to move 50 basis points either side of its 0% target, up from 25 basis points previously.
The BoJ stated that its intention with the action was to “improve market functioning and encourage a smoother formation of the entire yield curve, while maintaining accommodative financial conditions.”
In September 2016, the central bank implemented its yield curve control mechanism with the goal of bringing inflation back up to its 2% target after a protracted period of economic stagnation and extremely low inflation.
To maintain its ultra-loose monetary policy stance, the BoJ, an outlier compared to most other major central banks, also kept its benchmark interest rate at -0.1% on Tuesday. It also promised to significantly increase the rate at which it buys 10-year government bonds. While doing so, other central banks around the world are aggressively tightening monetary policy and raising rates in an effort to tame the sky-high inflation rate.
The Japanese yen and bond yields globally increased as a result of the YCC change, but Asian stock markets fell. The Nikkei 225 in Japan experienced a 2.5% decline on Tuesday. For a brief period, the 10-year JGB yield rose to over 0.43%, its highest level since 2015.
The U.S. dollar was down 3.3% against the rising Japanese yen by late morning in Europe.
The 10-year note’s yield increased by about 7 basis points to just under 3.66%, and the 30-year bond’s yield increased by more than 8 basis points to 3.7078%. Prices and yields follow opposite trends.
The pan-European Stoxx 600 initially lost 1% in early trading before making up the majority of its losses by late morning, as shares in Europe initially declined. The price of European government bonds fell as well, with Germany’s 10-year bund yield rising by almost 7 basis points to trade at 2.2640% after falling from its previous highs.
“The decision is being read as a sign of testing the water, for a potential withdrawal of the stimulus which has been pumped into the economy to try and prod demand and wake up prices,” said Susannah Streeter, senior investment and markets analyst at Hargreaves Lansdown
“But the Bank is still staying firmly plugged into its bond purchase program, claiming this is just fine tuning, not the start of a reversal of policy.”
Mizuho Bank echoed that sentiment in an email on Tuesday, stating that the market movements reflect a sudden flurry of bets on the BoJ switching to a more pro-hawkish stance, but that the “popular bet does not mean that is the policy reality, or the intended policy perception.”
“Fact is, there is nothing in the fundamental nature of the move or the accompanying communique that challenges our fundamental view that the BoJ will calibrate policy to relieve JPY pressures, but not turn overtly hawkish,” said Vishnu Varathan, head of economics and strategy for the Asia and Oceania Treasury Department at Mizuho.
“For one, there was every effort made to emphasize that policy accommodation is being maintained, whether this was in reference to intended as well as potential step-up in bond purchases or suggesting no further YCC target band expansion (for now).”
(Adapted from CNBC.com)