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Welcome to the Mertain Talks, Money Markets, roundup debrief on the biggest stories in markets and economics. As I'm sure you've already walked to, I'm joined Stebeck, senior report and author of my distilled newsletter, and that most of the day's show. While Marrin is out on holiday for a change, it's not me with me is longtime friend of the show and usefully our government boinds. Go to a guy,
Marcus Ashworth. Marcus is a Bloomberg opinion columns covering European markets and is also our go to guy for all things bond related. Marcus, Nice to see again. How's it going?
What always a pleasure?
Yes, I'll buy you lunch one of these days. Up in these coins? Yeah?
All the rage or not?
Actually, what's been going on?
Sure? Well, it's the second largest bond market in the world after US treasuries, and it's obviously the proud owner of the largest sort of government debt GDP ratio as well. So the Japanese government market has been a backwater in the sense of foreign investors for many many years.
That is very.
Much owned by the Japanese sure as pension funds and particularly Bank in Japan itself, so it owns a lot of its own debt, so it's all great, big sort of money round about. Nonetheless, we start to have noticeable inflation in Japan after many decades of deflation and certainly very sort of stagnant growth. But you know, the Japanese
economy fits the starts are doing quite well. In nominal terms, it's growing at five percent, but you take inflation way, which is sort of three percent and above and below, depending how you look at it. It's perhaps a problem now that inflation is coming through the Bank of Japan is very reluctant to raise interit traits, but it is slowly but very carefully. It just wants to see make
sure that deflation has finally finally gone away. But there are some some nasty signs, which has meant essentially that demand for long, long dated debt in Japan, which once was a clam out. All these pretension funds used to say, I'm forced to buy US treasuriescause of the year, because I don't get anything in Japan. Please please put you
put yields up. Well, now they've got it. They don't want it anymore, and that's largely because they've got enough, and the Bank of Japan is no longer buying all of jgb's that are sweeping up all the loose bits. They are trying to passively quantitative titan, which is in essence, they're not buying everything that matures in the sense of rebuying investing in back of the market. They're slowly but very steadily decreasing the matter on their own balance sheet. Well,
no one's really there to buy it now. Ironically, foreigners have been a little bit more active in the last few months, seeing yeals going high and they thinking, well, let's have a little bit of that. Unfortunately, they've had nothing but bad news since they've been getting involved. But you know, we really don't have much of a structural demand for the long end of Japan. And we've had
a couple of rubbish auctions. We had a twenty year previous week and forty year this week, neither of which have gone at all.
Well, however, and just one thing so very quick, so just to be clear, and the auction is when the government goes out for the first time and tries to borrow the money hasn't it all says we're wating a forty year I owe you appeal for it. It was like an ip A for equities.
Yeah, they're just issuing new government debt across different points on their yell curve from two years out to forty years, and they have a schedule which comes up and they do anyway, So they they've they've been. You know, as all government bonds are sort of well documented when they will be issuing, the government will be selling more of them. It just depends how many people turn up to buy it. Now, normally you'd expect to see at least two to maybe three,
four five or purposing more times cover. These are well flagged liquidity events where you want to buy something that you can get to buy a lot of bit at one time and get a fairly clear and open price. But you know, forty years is a very very long maturity and it's a very specialist market. It's only really sort of life insurers and pension funds. You might really
want to buy these things. Anyways. The last couple of longer ended auctions have done poorly in relative terms, which has brought out a lot of panic, some very sharp ye'll moves higher. However, one thing I have many many years of trading Japanese government bond's best part of thirty five years is not longer. There is always a saying he's been known as the widow maker trade trying to short jjb's is it falls out. However, you know this is because the Japanese authorities are fairly canny when it
comes to looking after their own market. And they've looked like they pulled another stunt, which is they've sent around a questionnaire the Ministry of Finance. This is to all the various different primary dealers, the main main Japanese. They've done one dealers and said how much would you like
in future? I would you like a lot less? So everyone's read between the lines, Oh, they're going to cut all the size of all these sales and essentially the issue short dated bonds, and that sort of worked a bit of its magic. Nonetheless, unfortunately another auction went badly, so we we're back, you know, in the mar again. But you know, definitely yields are a lot higher than they were, seismically higher, and that is a very important international thing to watch.
That sounds good. Just before we get to that certainly I understand it is that one of the reasons the mind for long dated points like everywhere was high is because investos basically, but an an environment, we have the thought interest rates and we're going to keep going down and deflation was going to continue to be in this you And what is harpened since COVID and infleetion took
off is that that psychology has been destroyed. And also obviously inflectionent has going up, so you know, you need to get paid for taking the risk where as you're dead in before. How much of that is the case and how much is it something more structural? It's like, did these pension funds not need twenty immaturities anymore? Why is that?
All you said is correct? However, the brutal reality is is that the Bank of Japan is not buying as much as it used to buy. Owns fifty six percent of the entire issuance, and it's trying to reduce that and there aren't enough buyers to replace it. It's nothing more, nothing less. Demand you know, is lower than supply at the moment, there's.
More salers than buyers.
Well, yes, there's no buyers. It is not that many sellers, but there's no bars at all, so you know, you just get to you and often the Japanese gun mole
market is moribun and it doesn't even trade. It's very much by appointment and it's held by very well known people that you know, we don't necessarily want to add to anything more at the moment, and that's we've got this situation whereby if the government comes in to try and sell something and no one turns up, in effect, or not enough people turn up, the market just doesn't
want to know. Yeal goes high and higher, the price goes low and lower, until eventually this authorities have to do something, and that's what they've sort of done by begging a big signal. They probably might sell some less, but we shall see.
Moving over from Japan, how does this affect the rest of the world right or the US market?
Has it explained? I mean, Japanese bon yields and interest rates have traditionally been very very low, so it's been the main home and source of what's known as the carry trade, which is a hard thing to understand. Basically, what people are doing is they're borrowing in yen and then using that money cheaply to buy higher yielding, more exciting assets like US text docs for instance, or of US bonds. But I know, so a lot of the international flows are dependent on liquidity from borrowing in yen.
If all of a sudden that be comes a lot more expensive as has been, it unravels a lot of other types of trades. So it is essentially, you know, a storm in Japan can can have material effects elsewhere at the same time, as we're seeing a sell off in US bond yields, particularly the long end as well, and indeed in the UK we can come over to
the UK in the moment. But I mean principally, we're worrying here about the big floats between dollars and Japanese yen, and that the authorities in Japan are very worried about one the yen weakening too much or indeed strengthening too much.
That doesn't want to gradual That the yen is very is very cheap in relative terms of the dollar, but slowly and steadily they want that maybe it to be less so, but they want no sharp moves, so that means no shot moves and interest rates preferably and indeed in their own bond yields. So let's learne there's stock market.
So this is what I'm the last August, doesn't it when we had that brief period of panic when the yen got a lot stronger, very suddenly, exactly because.
That was everyone who to a big export county like Japan, they are planning forward. You know, if you're going to sell lots of toyotas, you need to know where where your FX risk is, and so everything has to be done, you know, preferably in a very calm and careful manner. So sharp moves are not appreciated, particularly by Japanese authorities, but it's because it does upset the attle cart elsewhere as well. And quite clearly, the Trump administration is in
the middle of are doing trade negotiations with Japan. Japan's government isn't quite a rocky place at the moment, so the last thing they want to be seen is manipulating their currency. And as far as the US authorities are concerned, but they obviously are going to have to do a fairly important and probably painful trade deal with the US because they obviously export an awful lot. Though they're no
longer happened to the world's largest credit to nation. That's that's not being handled across the journey, according to the latest Japanese Ministry of Finance details. But I mean point is that Japan sells a lot into the US. Its currency rate has been very weak. It's be very advantageous for its exporters. They don't want that to change true ratically.
Because honestly, one issue with interest rate is going up is the borrowing more expensive. So I mean is we'll take this to the UK now because obviously that's where most of our listeners are living and where their mortgages
are and things like that. What is the knock on impact to the UK If there is a knock on impact because obviously long boinds here are going the yields are going up to what does all of that mean for the public finances and for what's likely to happened with the bank at England rate and mortgages and things like that is.
Not good news. But I mean, what we're saying in Japan is very similar to what we're seeing in the UK. We had the scare with the sort of lit trust instance, which was really more down to pension funds and the bond buying strategies called liability driven investing. I'm going to the money.
Thank you, because I've gone into that a number of times on this podcast, and you're one of the few people that actually confirms that that is what it was, so expert here the.
Bank of Anything confirmed themselves two thirds of it was down to LDR.
Yeah, exactly.
However, the point is is that the scare that which she had around that time October twenty twenty two, three years ago, has not really been how should we say, learnt, And now we're finally seeing the knock on effect in Japan, much much bigger than the market in the UK. But it's the same basic problem. There are not enough domestic long only pension fund slash insurer buyers who naturally want
very long data accets to match against the liabilities. There aren't enough buyers in the UK either, because we have our own Manu shy Of as you know, of defined benefit pensions, and the requirements to that is dropping because a lot of getting closed. The LDI type of buying is disappearing at the same time as we just got structurally, you know the demographics, but people are not living as long there is less demand for very long dated debt.
The Debt Management Officer of the UK Treasury has done a lot to try and get ahead of this, but it's evident that they need to do even more. I sell less long bonds exactly is what perhaps is happening in Japan. This is just a very similar thing. It's a structural domestic demand from the big institutions in both the UK, Japan and the US is radically reduced. The US Treasury is sort of getting ahead of it in
two ways. One, they're ishing a lot more tea bills, which we don't really do in the UK and perhaps we ought to do more of.
Just clearly, tea bells are basically just cash.
Yeah, they're very short money market instruments which don't offer a coupon, but they are issued below one hundred, say at ninety nine or ninety eight, and they're mature at one hundred, so you get your money back by holding it to maturity, and you get back more than you put in. So you know, this is short data funding, which is you know, obviously banks are very very important in it, but you know, we don't do as much
in the UK as perhaps other countries do. The other thing that US are doing is that the Federal Reserve has stopped basically all all their US Treasury quantitative timing passively. They are buying something like five billion a month, but you know, they're hardly doing anything. So in that sense, it's not you know, as prevalent a supply demand issue maybe in the US by what's going on with the
Trump administration. And indeed, what the Federal Reserve is basically saying, which is we're not going to cut interest rates very much.
But basically the fad has stopped sale and poins to stop pail jungers, they stop.
Reducing their balanchine quiet they are quite as much as clearly the Bank of are still doing in this country. And we've got the highest first year you know yields of all you know, we're five and a half percent. And then that's that's you know, costing us, and it costs our financing and our interest rate bill each each year is higher and higher, and that's just obviously causing extreme problems onto Rachel Reeves's fiscal headroom or lack thereof.
And yeah, we are not helping ourselves at the moment. But you know, basically, lusts like Japan we've got less demand for very long dated bonds, perhaps we should sell even less of them for the moment anyway, So does that.
Mean presumably the idea would be we stop selling as many long dety points and we start selling more short detied ones sly two five to ten years. Yes, But my question then is doesn't increase in supply at that and then push up interest at that end as well, or they also be.
An equal there's a lot more liquidity to much bigger market. It's much more you know, you have a lot more foreign interest, particularly foreign central banks don't tend to go out beyond ten years, and obviously a lot shorter Equally hedge funds which are very active, but in beyond sort of the ten to fifteen year that they're gonna be very much any relative value buying and certing strategies, you know, doing sort of complex trades, but in the net exposure
they have will be very limited. So it's really a very domestic market out beyond ten or fifteen years. In the UK totally dominated it for many many years by pension funds and insurers, and these guys have got enough at the moment. So as I said that, don't Manager Office has done a fantastic job up to now. However, they perhaps need to be even more or the Treasury needs to make come up with an even more aggressive
way of changing how we find. We find a lot of very long dated and very much inflation linked bonds in the last twenty thirty years, it's been fabulous for us. However, the situation has changed and this is not where we perhaps have natural demand which maybe go to some more traditional and like a lot of more other bond markets, an issue much more in the two to tenure sector, like the US Treasury does.
Final question on this, But given all of this, what do you think that actually does mean for the interest rates that marld to you know, people putting us evingsway and people taking the morgidgees. I mean because you know where at the start of this year this sort of Bank England, the were people thinking, oh, you know, we may have fee and a half percent by the end
of the year. Are but that would be like that would be the same really has become an inflation rate pretty much and that strikes me as a bit and lately note but I don't know what viewing that well.
We haven't helped ourselves by you know, raising the minimum wage, raising a lot of public sector wage rises, and obviously huge tax hikes you know, national insurance contribution to employers and things like that which have forced a lot of
things higher. We do have you know, a bump at the moment because of energy prices which will go away, and there's a number of things which would would lead to you think that probably over the course of the next six months a year, that inflation will come back
down again. Nonetheless, you know, really the Bank of England is of the opinion at the moment that doesn't do anything until it's absolutely proven that that they have got on top of inflation, and they are clearly more worried about it than perhaps a lot of in the market had thought, because we expect the economy to be pretty soft now as we know. The first was strong optically because a lot of inventory build ahead of obviously the tariffs.
That's not necessarily going to last very long. So growth for the rest of the year in the UK is probably not going to be that great. If it's any weaker than the Bank of unexpects, then maybe we'll see the Bank of It be a little bit more aggressive on rate cuts. But They really want to see two things. Evident economic weakness, of which we're not really seeing at the moment. That there are some worries in the labor markets. It's obviously the statistics. We got quality of them as parlors,
so we don't really have much visibility on that. And they're not taking your risk until they feel they've got controversial evidence that we're in recession or something like that, and until they're seeing inflation. You know, I actually properly turned the corner and go back down again towards at least, you know, evidently back towards the two percent target. Anything above three three and a half percent, which you're sort of seeing the moment is you know, no go for them.
They're not going to tighten or raise interest rates, but they're not going to rush too. So you know, we might get one in August, but that's looking like a coin flip, so we may get another one before the end of the year. But you know, look, I never would have thought this, but there is a possibility we
may have got nothing until until next year. But as I said, unless we get some further clarity both on inflation indeed on how the economy is faring, I don't think the Bank of England is gonna be our friend here.
It really is great. Well, thank you very much Marcus. As always, that was extremely enlightening and much very much pre city coming on.
Well job, Thanks very much you for having me. Was enjoy it.
Thanks for listening to this week's Melton Talks Money Debrief. If you like our show, rate review and subscribe. Whatever you listen to podcasts, please make it five stars. Also be sure to follow me on exit, join Underscore, Stepic and Merin Maren s w follow Marcus at Marcus Ashwood. This episode was produced by Moses and Summer Sadi and tala Amadistions and comments on this show and all our shows are always welcome. Our show email is merin Money at bloombard dot net