Sanae Takaichi's election as Japan's LDP leader, signaling her likely premiership and a commitment to expansionist "Abenomics"-style fiscal and monetary policies, is anticipated to bolster Japanese equities, potentially pushing the Nikkei towards 47,000 amidst short-covering and building on recent record highs. However, this dovish stance is expected to exert negative pressure on longer-term Japanese government bonds (JGBs) and the yen, contrasting with rising shorter-dated JGB yields driven by Bank of Japan tightening expectations, and Takaichi's influence may complicate the BOJ's rate hike trajectory, potentially leading to a steeper yield curve.
US economic rebound could boost Europe’s credit markets, UBS says By Rocky Swift TOKYO (Reuters) -Japanese shares are expected to keep setting records even as the nation’s currency and bonds sputter after fiscal dove Sanae Takaichi was elected on Saturday to lead the ruling party and likely become prime minister. Takaichi, 64, was considered to have the most expansionist fiscal and monetary agenda among five candidates in the Liberal Democratic Party race to replace hawkish Prime Minister Shigeru Ishiba. In the lead-up to the LDP race, a "Takaichi trade" emerged - long on stocks and bearish on Japanese government bonds, particularly longer maturities - positioning for a win by Takaichi, a devotee of the "Abenomics" stimulus policies of the late Shinzo Abe. ’POSITIVE SURPRISE’ FOR SHARES, BONDS ON EDGE Japan’s benchmark Nikkei logged a record closing high of 45,769.50 on Friday, topping the record set the week before, as investors bet whoever succeeded Ishiba would be more dovish. Short positions on the gauge have been building up recently and may now be unwound, said Resona Holdings strategist Hiroki Takei. "This could be considered a positive surprise for stock prices," Takei said. "If short-covering is triggered, the rally could gain momentum, potentially pushing the index toward the 47,000 level." The Japanese government bond market has been on edge since late May due to waning demand among traditional buyers, decreased support from the central bank and concerns about swelling debt. The sector was dealt another blow in July, when Ishiba’s coalition lost its majority in the upper house of parliament - having lost its lower house majority last year - as outsider parties campaigning on tax cuts and increased spending gained seats. The 30-year JGB yield surged to a record 3.285% on September 8, the first trading day after Ishiba announced he was stepping down. In recent weeks, the Nikkei’s momentum slowed and longer-term JGBs rallied as markets gave the edge in the LDP race to farm minister Shinjiro Koizumi and Takaichi appeared to moderate her stance, leaving sales tax cuts out of her platform and staying mostly mum on the Bank of Japan. "She seemed to have toned down her rhetoric recently but ultimately the feeling is still that she will push for looser fiscal and monetary policy," said James Athey, a fixed income manager at British investment group Marlborough. "As such, there is likely to be a negative reaction in long-end JGBs and the yen." Japan’s currency closed at 147.44 per dollar on Friday, staging a 1.4% gain on the week that was the sharpest since mid-May. After her LDP victory, Takaichi told a press conference the government and central bank must work closely to ensure Japan’s economy achieves demand-driven inflation backed by rising wages and corporate profits. Prices for shorter-dated JGBs, those most sensitive to central bank rates, have been on a declining trend, pushing their yields higher as evidence mounted that Japan’s economy was sound enough for the BOJ to resume tightening policy. BOJ Governor Kazuo Ueda has put the central bank on a long-term path to raise interest rates and shrink its balance sheet after more than a decade of massive stimulus that was a key part of former Prime Minister Abe’s economic platform. Yields on two-, five-, and 10-year JGBs have all reached levels not seen since the financial crisis in 2008 on bets the BOJ could raise rates as early as this month’s meeting. Takaichi’s wide support among rank-and-file LDP members will lend her cabinet a strong mandate and a heavy hand in influencing monetary policy by the BOJ, said Tohru Sasaki, chief strategist at Fukuoka Financial Group and a former BOJ official. "Takaichi will make it difficult for the BOJ to raise rates, so yields will go lower," Sasaki said. "But at the same time, she’s likely to expand spending, which is negative for bonds. A steepening of the yield curve is a possible reaction." The election of fiscal dove Sanae Takaichi as Japan's LDP leader signals a continuation of expansionist "Abenomics"-style policies, creating a bifurcated outlook for Japanese assets. For equities, this is a distinct positive, with the benchmark Nikkei having already priced in a dovish successor by hitting a record 45,769.50. Analysts project further upside towards the 47,000 level, driven by potential short-covering. Conversely, this policy stance is expected to exert negative pressure on Japanese government bonds (JGBs) and the yen. The long end of the JGB market, already fragile from waning demand and swelling debt, faces headwinds from Takaichi's expected spending increases, which could push yields higher, as seen when the 30-year yield previously hit a record 3.285%. A critical tension is emerging between Takaichi's administration and the Bank of Japan (BOJ), which under Governor Ueda has signaled a path toward monetary tightening. Takaichi's political mandate may make it difficult for the BOJ to execute rate hikes, creating a scenario where political pressure suppresses front-end rates while fiscal expansion pushes up long-end yields, leading to a steepening of the yield curve.
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