Japan Government Bond ETFs: How Low Can Yields Go?

Zacks

Ultra-low government bond yields in Japan continue to puzzle many investors as the country’s economy stagnates while the debt continues to grow at an alarming rate. Japan Government’s borrowing now exceeds $12.8 trillion and stands at about 230% of its GDP.

In May, Fitch Rating downgraded Japan’s sovereign credit to A+, for the first time since 2001, and warned that Japan’s public debt will reach 240% of its GDP by the end of the year.

Current political uncertainty and the possibility of an early election further complicate the efforts to rein-in public debt. (Read: 3 ETFs To Prepare For The Fiscal Cliff)

However, all big bets against Japan Government Bonds (JGBs) have failed so far as the yields continue to fall.

Many times, the Japanese debt situation is compared with the situation in Europe. However Japan’s debt situation is inherently different from those of troubled Euro-zone nations.

Having its own currency and independent monetary policy means the government and central bank have unrestricted ability to ‘print money’ and repay debt. Further a strong current account position means the country is not dependent on the foreign capital.

Japan’s debt is largely domestically held and taking deflation into account, the real yields on the government debt do not look so bad. Further, Japanese savers are willing to keep buying government bonds due to their ‘home-bias’. (Read: Emerging Markets Sovereign Bond ETFs: Safe With Attractive Yields)

Foreign investors also continue to flock to the Japanese government bonds as the Japanese yen remains one of the few safe-haven options available globally. As of the end of March this year, foreign investors’’ holdings accounted for 8.3% of outstanding JGBs, up 23% from a year ago.

Latest Fed action has further pushed yen higher and increased the possibility of announcement of another round of monetary easing by the Bank of Japan this week. As a result, the yields on the 10-year benchmark JGB recently fell to 0.80%; only Switzerland has lower yields on its 10-year debt. (See: 4 International ETFs Yielding more than 5%)

However with the rapidly aging population and declining saving rate in the country, the trend of ultra-low interest rates may not continue too far in the future.

There are four ETN options available to the investors seeking exposure to the Japanese government debt, two each for bullish as well as for bearish views.

For the investors who believe that the Japan’s yields are now at the point of inflection, there are two inverse plays on the government debt, viz JGBS and JGBD. (Read: Build a Complete Portfolio with These Three ETFs)

And for the investors on the other side of the equation, who believe that the yields will continue to fall, the investments options are JGBL and JGBT.

PowerShares DB Japanese Government Bond Futures ETN (JGBL)

The note seeks to match the performance of the DB USD JGB Futures Index, net of fees and expenses. Launched in March 2011, it is an unleveraged product and provides returns on a long position in 10-year JGB futures plus the monthly T-bill index returns.

With AUM of $5.2 million, the fund returned about 2.4% year-to-date and charges 50 bps in fees. The volume continues to be very low as it exchanges just 1,200 shares on an average daily basis, .

PowerShares DB 3x Japanese Government Bond Futures ETN (JGBT)

JGBT is a leveraged ETN that provides exposure to three times the monthly returns on a long position in 10-year JGB futures, plus the monthly T-Bill index returns. Similar to JGBL, this fund tracks the DB USD JGB Futures Index.

The ETN has returned about 4.2% year-to-date and charges 95 bps to the investors per year for operating expenses. It has attracted about $4.5 million in assets and trades in a low volume of 1,700 shares on average daily basis.

PowerShares DB Inverse Japanese Govt Bond Futures ETN (JGBS)

Investors seeking exposure to a short position in 10-year JGB futures might target JGBS which looks to track the DB USD Inverse JGB Futures index. Launched in November 2011, the note provides unleveraged exposure to the U.S. dollar value of the monthly returns on a short position in 10-year JGB futures plus the monthly T-Bill index returns.

So far, the product has attracted assets of $23 million and charges 50 bps in fees annually. The ETN has generated negative returns of about 2.8% year-to-date while daily volume currently comes in around 23,000 shares a day.

PowerShares DB 3x Inverse Japanese Government Bond Futures ETN (JGBD)

This ETN offers investors three times inverse exposure to the monthly returns on a short position in 10-year JGB futures plus the monthly T-bill index returns in U.S. dollar terms. Similar to JGBS, the product tracks the DB USD Inverse JGB Futures Index, net of fees and expenses.

With assets of $20.6 million, the note delivers three times negative return of JGBS, which comes to 5.9% year-to-date. Daily volume is 26,000 shares. It charges annual expenses of 95 basis points.

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Read the analyst report on JGBL

Read the analyst report on JGBT

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