Mizuho expects that the Bank of Japan may accelerate interest rate hikes: embracing anti-inflation assets, long-term bond yields will come under pressure.

Mizuho Financial Group expects that the Bank of Japan will accelerate its rate hikes against the backdrop of a weaker yen and intensifying inflation, with the next rate increase potentially occurring as early as next month. Kenya Koshimizu, co-head of the global markets division responsible for managing the bank's 41 trillion (approximately $257 billion) securities portfolio, also anticipates that long-term interest rates will continue to rise following this week's 10-year Japanese government bond yield reaching a 30-year high. Koshimizu indicated that for Japan's third-largest bank, the consequence is that the bank will continue to avoid purchasing Japanese government bonds (JGBs) except for inflation-linked JGBs and bonds maturing within a year. In an interview in Tokyo, he stated, "We have limited the interest rate risk we are taking on, so the duration of our portfolio is very short." His comments highlight that, as rates rise and inflation persists, many (but not all) Japanese financial institutions remain cautious about re-entering the Japanese government bond market. Koshimizu noted that the possibility of a rate hike in September is "quite high," and the Bank of Japan may shorten the interval of its policy actions from the current approximately every six months to every three months. He said, "Once the Bank of Japan shifts to a pace of once every three months, it will be difficult to slow down again." He added that after stripping out the current approximately 1.6% inflation impact, the current policy interest rate of 1% still remains "in a profoundly negative zone." With ongoing pressure on the yen and consumer prices, traders and economists are paying close attention to whether the Bank of Japan will increase the pace of its rate hikes. A former government official even suggested raising rates at every policy meeting. Despite a coordinated intervention from Japan and the U.S. last month to boost the yen (the first such cooperation since 1998), the yen has resumed its downward trend. Koshimizu remarked, "The significance of the coordinated intervention is substantial," reflecting a shared understanding that further depreciation of the yen is undesirable. "Moreover, part of the yen's weakness can be attributed to Japan's loose monetary policy." Mizuho's securities portfolio totals 41 trillion. According to insiders last week, Prime Minister Fumio Kishida's government supports a rate hike in the near future, with the next action possibly taking place in September or October. Koshimizu stated that he does not rule out the possibility of two rate hikes before the end of the year, which would raise the policy rate to 1.5%. Based on overnight index swap market data released on Tuesday, traders expect a 78% probability of a rate hike when the Bank of Japan's policy committee meets on September 18. Koshimizu expressed that it is difficult to predict the Bank of Japan's terminal rate, as it depends on the evolution of the Japanese economy. He added that because of productivity gains driven by equipment investment booms, the central banks estimate of a neutral rate could be revised upward from the current range of 1% to 2.5%. Koshimizu indicated that Mizuho maintains a "conservative" stance toward investments in Japanese government bonds, as the current benchmark 10-year government bond yield of about 2.9% remains low given Japan's approximately 4% nominal economic growth rate. As of the end of June, the bank held approximately 20.6 trillion in Japanese government bonds, most of which were short-term securities maturing within a year. As of June, the average remaining maturity of the Japanese government bonds held by Mizuho was less than one year. Koshimizu stated, "Given the structural changes globally and the investment boom, the inflation risks remain biased to the upside. Therefore, we plan to actively invest in inflation-linked JGBs." Many in the market attribute the weakness of Japanese government bonds to Kishida's fiscal policy, including the decision to cut the food consumption tax for two years. However, Koshimizu does not expect a severe sell-off similar to that witnessed during former UK Prime Minister Liz Trusss introduction of unfunded tax cuts. Koshimizu stated, "Once yields rise to a level that is more consistent with nominal growth rates, there will be considerable potential demand for Japanese government bonds." He added that large Japanese banks, overseas investors, and even households could become intentional buyers of Japanese government bonds. Koshimizu holds an optimistic view on Japan's growth prospects, stating that the Japanese economy is undergoing a transformation not seen in decades, which has boosted business activity and loan demand. Therefore, he deemed Japanese equities as "very attractive assets," and the bank is investing in index funds. He remarked, "Global structural changes are expected to have a positive impact on the Japanese economy. However, such periods tend to bring greater volatility to financial markets."