Bonds rise on concerns over yen, deflation

Tokyo: Japan's 10-year bonds completed a two-week advance on concerns lingering deflation and a strong yen will encourage the central bank to continue liquidity operations, boosting demand for fixed-income securities.

Ten-year yields dropped to a seven-year low as the yen stayed near a seven-month high versus the dollar and economists said a report this week will show consumer prices fell for a 16th month. Japan's government bonds returned 0.2 per cent so far this month, adding to a gain of 2.2 per cent between January and June, the best first half since 2001, according to an index compiled by Bank of America Corp's Merrill Lynch & Co unit.

"There is no clear sign that Japan will come out of deflation, while a strong yen adds to such pressure," said Takeshi Minami, chief economist in Tokyo at Norinchukin Research Institute. "The Bank of Japan is nowhere near the exit from monetary easing, allowing bond yields to stay low."

The yield of the benchmark 10-year bond fell two basis points last week to 1.065 per cent in Tokyo at Japan Bond Trading Co, the nation's largest interdealer debt broker. The price of the 1.1 per cent bond due in June 2020 rose 0.179 to 100.313 yen. Yields reached 1.045 per cent on July 22, the lowest since August 2003. A basis point is 0.01 percentage point.

Ten-year bond futures for September delivery gained 0.03 last week to 141.69 yen at the Tokyo Stock Exchange after touching 142.08 on July 22, the most since August 2003.

Consumer prices excluding fresh food slid 1.1 per cent in June from a year ago after dropping 1.2 per cent in the previous month, according to a Bloomberg survey ahead of the July 30 data. The yen touched a seven-month high of 86.27 reached on July 16. The country's large manufacturers expect the yen to average 90.16 per dollar in the six months to March 2011, according to the Bank of Japan's quarterly Tankan survey released on July 1.

"Japan is close to foreign-exchange intervention, with the pain threshold probably between 80 to 85 per dollar," wrote Richard Jerram, Asian economics head at Macquarie Securities. in Tokyo. "We would expect the Bank of Japan to accommodate any intervention with a parallel expansion of its balance sheet, but it is far from clear that even this would be effective."

Vice Finance Minister Motoshisa Ikeda told reporters in Tokyo on July 22 that the government wants to "avoid excessive gains in the yen." The day before, Trade Minister Masayuki Naoshima said the currency's gains pose a risk to growth. The Nikkei 225 Stock Average gained 2.3 per cent on Friday and the MSCI Asia Pacific Index of shares added 1.6 per cent.