The top foreign holders of U.S. debt may soon dump Treasury bonds and bring their money back home, potentially spiking borrowing costs
For decades, Japanese government bonds have offered very low yields, forcing investors to look abroad, particularly to U.S. financial markets.
Japanese investors now own nearly $1 trillion in Treasuries combined and are the largest foreign holders of U.S. debt.
However, this may change as the Bank of Japan raises interest rates and hot inflation increases JGB yields, which now look more attractive and have emerged as an alternative to Treasuries.
Yields on 10- and 30-year JGBs have risen to the highest levels since the 1990s and the central bank is expected to tighten for a fifth time since 2024 as the Iran war drives up oil prices.
Meanwhile, Prime Minister Sanae Takaichi appears to be increasing government spending as part of efforts to revive growth and offset the oil shock, which is increasing inflation trends.
Of course, as inflation rose, so did US yields. But the Federal Reserve’s next move is still expected to be a rate cut, but that timeline is being pushed back even further, perhaps to 2027.
There are already signs that money is being repatriated, as March saw the largest monthly inflow ever into Japanese government bond funds.
“The new money being processed will not be made available overseas,” said Mark Dowding, BlueBay’s chief investment officer. told Finance Times. “It won’t go into U.S. corporate bonds. It won’t go into U.S. Treasuries. It won’t go into domestic allocations.”
The asset manager launched its first Japanese bond fund in March, underlining the massive shift taking place in the market.
Next month, investors predict the Bank of Japan will raise interest rates again, taking the benchmark from 0.75% to 1%, the highest in three decades.
This would limit a dramatic reversal after the central bank maintained ultra-low interest rates and even negative interest rates for several years to fight deflation amid a stagnant economy.
Ruffer fund manager Matt Smith said: F.T. Japanese investors are betting that the yen will appreciate as they put more of their money into domestic assets.
“Pressure is building; long-term domestic yields are rising,” he predicted. “And now the institutional framework is ‘can you please bring this money home?’ We think the strengthening of the yen will happen slowly, then quickly.”
But if investors abandon U.S. debt en masse, that could force the Treasury to offer even higher yields to attract other buyers.
The market deteriorated rapidly after a series of debt auctions last week attracts quiet demand. As a result, the Treasury Department sold $25 billion of 30-year bonds at a 5% yield for the first time since 2007. Prior to that date, no 30-year Treasury carried an interest rate above 4.75%.
