UBS: Fiscal expansion and monetary policy uncertainty resonate, there is still room for Japanese bond yields to rise.

On January 21, 2026, UBS released a research report on the Japanese government bond market, delving into the driving factors behind the recent rise in Japanese government bond yields, and the potential impact of these changes on global markets. UBS's analysis indicates that the increase in Japanese government bond yields is not solely driven by fiscal policy, with uncertainty in monetary policy also playing a key role. UBS believes that while the Bank of Japan's accommodative policy and Yield Curve Control (YCC) have been influencing the market in recent years, the current rise in yields is more reflective of market expectations for future policy rate increases and term premium expansion. Term premium refers to the additional return investors expect to receive from holding long-term Japanese government bonds. UBS's model analysis shows that last year's increase in yields was mainly achieved through an increase in term premium rather than expectations of policy rate increases. The report points out that the increase in Japanese government bond yields is closely related to uncertainty in fiscal policy. Although the Bank of Japan's policy rate is expected to remain close to zero, market expectations for long-term policy rates are difficult to accurately calculate, especially with limited fluctuations in the Japanese government bond yield curve. UBS analyzes the 2-year forward 2s10s curve and believes that this indicator better reflects investors' pricing of fiscal risks, with current levels approaching those seen during Liberation Day and the Global Financial Crisis (GFC). UBS also notes that the volatility in the Japanese government bond market has not yet led to sustained spillover effects on global markets. The 30-year Japanese government bond yield has risen by over 40 basis points since the beginning of the year, but this volatility has not had a sustained impact globally. UBS economists expect Japan's terminal rate to reach 1.5% within the forecast range, but Japanese economic growth expectations are nearly double the potential growth rate, and fiscal risks are likely to further expand. Therefore, UBS believes that there is still room for the rise in Japanese government bond yields before the elections. The report also mentions that foreign investors have significantly reduced their positions in the Japanese government bond market, with foreign investors almost halving their investments in Japanese bond markets as global yields rise. Japanese inflation swap prices are close to the Bank of Japan's inflation target, and if the Bank of Japan takes a hawkish response to fiscal expansion, the 10-year to 30-year portion of the Japanese government bond yield curve may flatten, thereby eliminating some of the monetary policy uncertainty in recent market pricing. UBS suggests that investors may find better entry points in Japanese government bonds after the elections and uncertainty in monetary policy dissipate. Despite current market volatility, UBS remains optimistic about the performance of the yen in the overnight index swap rate curve. Overall, UBS's report emphasizes the complexity of the Japanese government bond market under the dual influence of fiscal and monetary policy. While fiscal expansion is the main drive behind the current rise in yields, uncertainty in monetary policy also significantly impacts the market.