New research from Greenwich Associates reveals a surprising shift among Japanese fixed-income investors–reversing the course set in 2004, Japanese institutional investors are increasing their activity in government bonds.
“In 2004, it appeared that concerns about funding levels and the need to increase investment returns were prompting Japanese investors to become more active in higher-yielding fixed-income products,” says Greenwich Associates consultant Tim Sangston. “In fact, our research last year showed that trading volumes were rising in credit bonds, agency securities, and asset-backed and mortgage-backed securities. This year however, trade volumes in all of these products except for credit bonds decreased, while the JGB share of total trading volume increased from 77% to 80%.”
Greenwich Associates consultant Dev Clifford continues: “The move back into JGBs is also causing Japanese investors to change directions in other areas as well. For example, last year our research revealed that more Japanese institutions were directly rewarding fixed-income dealers who provided them with exceptional research – a practice indicative of an increasing institutional focus on credit bonds and structured products. That trend came to an abrupt end in 2005. Such results come as something of a surprise at a time when the economic recovery seems to be taking hold, interest rates have no where to go but up, and the environment for fixed-income investors could become much more difficult in the very near future. It seems that now would be the ideal time to consider new products and strategies with the potential to deliver incremental investment returns.”
These comments are based on the results of Greenwich Associates’ 2005 Japanese Fixed-Income Research Study.
The report also found that Japanese investors stepped up their cash bond trading activity over the past year as growth in total trading volume outpaced increases in fixed-income assets under management.
Trading volume in credit derivatives declined by about 20% over the past 12 months while interest-rate derivatives trading volume fell even further, and fewer than 15% of Japanese institutions trade domestic fixed-income electronically, well below the e-trading usage rates found in the United States and other markets.
While institutional investors across the Asia-Pacific region are expanding their fixed-income staffing levels, Japanese institutions are much less optimistic in their hiring plans.
Government Bonds Dominate Trading Volumes and AUM
Japanese fixed-income investors increased their trading activity from 2004 to 2005 as growth in total trading volume outstripped increases in institutional fixed-income assets under management by a wide margin. Rebounding from a 20% decline from 2003 to 2004, cash bond trading volume in Japan increased by 65% over the past 12 months. Meanwhile, domestic fixed-income assets under management increased 13% over the period.
Japanese government bonds accounted for a large and growing proportion of both fixed- income assets under management and trading volume. “JGB trading volume increased by 73% from 2004 to 2005 and now accounts for more than 80% of total cash bond trading in Japan,” says Greenwich Associates consultant Tomio Sumiyoshi.
Among other fixed-income products, trading volume in investment-grade credit bonds increased by about 51% year to year, while asset-backed and mortgage-backed securities trading volume both dropped sharply.
Government bonds also make up the bulk of non-yen denominated fixed-income trading volumes in the Japanese market. Among institutions investing in non-yen fixed-income, government bonds represent approximately 75% of the $593 billion in total trading volume reported in both 2005 and the prior year. Within this group, trading volumes in ABS and MBS increased slightly and declined in most other products.
Cash bond trading volume in Japan remains highly concentrated, with the top 20% of Japanese institutional investors generating nearly 85% of total and the top 20% of international fixed-income investors representing more than 80% of the trading volume in that segment. Among Japanese investors, trust banks, city/credit banks, and life insurance companies were the most active cash bond traders over the past year. City/credit banks are also the most active international fixed-income investors, followed by trust banks and life insurance companies.