Japan's Bond Market Turmoil: 30-Year Yield Surges 75 Basis Points

Japan’s government bond market is experiencing unprecedented turmoil, with volatility surging to record levels. Over the past five months, volatility across Japanese government bonds has doubled, reaching a historic high of 4.02%. This surge in volatility is accompanied by a rapid increase in yields, with the 30-year yield now at 3.08%, up nearly 75 basis points from earlier this year and close to its all-time high since the bond was first issued in 1999. The 10-year yield briefly touched 1.60% last week, a level not seen since the 2008 financial crisis. These developments indicate significant stress in the Japanese bond market, the third-largest in the world. The 30-year Japanese Government Bond recently exceeded 3.2%, an unprecedented event, while the 10-year yield is comfortably above 1.58%, a figure that would have seemed implausible not long ago. This market turmoil is not driven by economic strength but by panic stemming from a falling yen, high energy prices, and a loss of confidence in the Bank of Japan.

The Bank of Japan has long attempted to control long-term interest rates through its yield curve control policy, but this strategy is now unraveling. Investors are no longer waiting for the central bank to act and are instead pricing risk independently. Japan faces a challenging situation: stabilizing bond yields could further weaken the yen, while protecting the currency could lead to even higher bond yields. The country’s public debt, with a debt-to-GDP ratio exceeding 260%, makes it highly vulnerable to rising interest rates. The yen is trading near 150 to the U.S. dollar, its lowest level in over 30 years. The Bank of Japan is likely to resort to backdoor purchases and vague public statements to manage the market, but the reality is that it has lost control. This situation echoes the summer of 2024, when a sudden unwind of the yen carry trade caused global market panic, with the S&P 500 dropping 8.5% and bitcoin crashing 15% in a single day.

Japan’s actions in the bond market have significant implications for the United States. As the largest foreign holder of U.S. Treasuries, with over $1.13 trillion invested in American debt, Japan’s withdrawal from the U.S. bond market could have severe consequences. Rising yields at home and a falling yen are pushing Japanese investors to repatriate their funds, reducing demand for U.S. Treasuries. This shift could increase U.S. borrowing costs and add chaos to global bond markets as investors adjust to the changing capital flows. The situation is further complicated by the return of Donald Trump to the Oval Office and Washington’s efforts to manage rising debt and inflation. The collapse of Modern Monetary Theory, which posits that countries can print money indefinitely without consequences, is also becoming apparent as investors lose faith in central bank policies. The Federal Reserve faces the challenge of balancing bond buying with the risks of inflation, a weaker dollar, and a loss of trust.