1. Following a comprehensive assessment of monetary policy settings, the Bank of Japan (BoJ) this morning announced “tweaks” to their settings rather than radical changes. Prior to the meeting, press reports had suggested that the BoJ were split in terms of the actions that were deemed necessary. That in turn meant there was a wide spread of expectations in the market as to what would be announced today. The first “tweak” is to shift the focus of monetary stimulus from expanding the money supply to controlling the yield curve. The second “tweak” is to commit to “inflation-overshooting” with the monetary base expanding until inflation stabilises above the 2% target.
2. Deposit rates have been left unchanged at -0.10%. The move to negative rates in late January 2016 was a controversial decision. Banks, insurance companies and pension funds were unanimous in their disapproval of this move, fearful of the effect it would have on company profits. Despite some speculation that BoJ Governor Kuroda would push rates even further into negative territory, it appears that this was a step too far for members of the board of the BoJ.
3. We now have a new acronym to add to our lexicon of market terminology – “yield curve control” or “YCC”. Essentially this is the Japanese version of the U.S.’s Operation Twist, and is an attempt to influence the shape of the yield curve. The move to negative rates in January 2016 caused a major rally in global bond yields, accompanied by an equally impressive flattening of yield curves. This was a further blow to the Japanese financial sector, so the BoJ have this morning announced measures that are deliberately aimed at steepening the yield curve. The BoJ are abandoning their target for the average maturity of Japanese Government Bond (JGB) holdings (previously 7-12 years), effectively allowing them to target more purchases in the intermediate area or “belly” of the yield curve.
4. The BoJ also announced that the annual pace of JGB purchases will continue at its current run rate of JY80trn per year. This JY80bn target may fluctuate in the short-term to enable policy makers to control bond yields. And they have effectively set an anchor rate for the 10-year area of the yield curve, announcing that they will continue to buy JGB’s so that 10-year yields will remain more or less at the current level of around 0%. This should allow yields to pivot around this maturity with shorter-dated yields being supported but longer-dated yields potentially rising.
5. There was a commitment to do more if necessary – the BoJ noted that they will consider expanding the monetary base if needed, and that further cuts to the negative interest rate of -0.10% could be made if needed. Options for further easing include lowering target yields and potentially more asset purchases.
6. The initial market reaction has been generally muted, apart from the Topix Bank index rallying close to 7%. 10-year JGB yields have sold-off a couple of basis points, moving closer to the 0% level. The spread between 2-year JGB’s and 30-year JGB’s is relatively unchanged, whilst the Yen has experienced some volatility but ultimately has ended up pretty much unchanged against the U.S. Dollar at a level of 101.75 at the time of writing.
7. Our feeling is today’s announcements mean that, as mentioned above, 10-year JGB yields should hover around 0%, meaning a neutral duration stance in this area of the curve is warranted (we had previously favoured a short duration stance). We think JGB curve steepeners are probably attractive given the move to “Yield Curve Control” – we had liked this position before today’s meeting, and continue to like it after the meeting. The spillover effects into other markets are less obvious, other than potentially reinforcing the recent steepening seen across major markets.
8. Attention now switches to the U.S. Federal Reserve meeting decision later this evening.