Japan's steep yield curve opens 'reverse carry' trade opportunity, Eastspring says

Japanese bond yields are increasing, presenting a reverse carry trade opportunity for overseas investors, according to Rong Ren Goh, a fixed income portfolio manager at Eastspring Investments. This shift is due to the Bank of Japan's interest-rate hikes making the traditional yen-funded carry trade less attractive. Japanese asset prices have experienced significant fluctuations following the simultaneous rate increases by the US Federal Reserve and the BOJ.

Goh suggests that buying ultra-long Japanese government bonds and hedging yen exposure could yield higher returns compared to similar bonds in investors' home markets. The 30-year Japanese government bond now holds a yield above 4%, providing a 100 to 200 basis points higher yield than the base currency equivalent when swapped in any developed-market currency.

Goh believes that the traditional yen-funded carry trade is no longer a "no-brainer," as markets expect Japan's policy rate to reach around 2% from its current 1.25%. He anticipates the reverse carry trade gaining wider appeal as investors become more confident in the stabilization of Japanese bond prices, following a selloff that began in 2022.

Eastspring, which manages $291 billion in assets, is adding shorter-dated dollar-denominated bonds while favoring ultra-long Japanese bonds to enhance credit spreads.