World’s most troubled bond market is bracing for yet another major surge in supply

Japan’s Bond Market Faces Mounting Challenges

Photographer: Akio Kon/Bloomberg

Japan’s government bond market is bracing for another difficult year, as investors must absorb the largest net increase in bond supply seen in more than ten years.

According to Bloomberg’s analysis, the country’s government debt—which performed the worst among major global markets last year—will see net issuance climb by 8% to approximately ¥65 trillion ($415 billion) in the fiscal year beginning April. This projection factors in the Bank of Japan’s reduced bond purchases and the redemption of maturing debt.

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This surge in issuance means private investors will need to absorb more bonds, potentially leading to higher interest costs for Prime Minister Sanae Takaichi’s administration, which has announced a record-breaking budget to support a major stimulus initiative.

Akio Kato, a senior manager at Mitsubishi UFJ Asset Management in Tokyo, commented, “The supply-demand balance in Japan’s bond market has worsened to the extent that the government may need to reconsider its issuance plans each quarter.”

Kato has adopted a cautious stance on Japanese bonds, maintaining shorter portfolio durations compared to standard benchmarks.

Last year, Japanese government bonds fell by over 6% in local currency terms, marking the poorest performance among more than 40 sovereign markets tracked by Bloomberg. The Bank of Japan’s gradual policy tightening failed to curb persistent inflation. In contrast, US Treasuries rose 6.3%, Chinese government bonds edged up 0.1%, and German bonds dropped 1.6%.

The main factor driving the increase in net supply is the Bank of Japan’s decision to slow its bond purchases. The central bank intends to cut its monthly gross purchases by over 25% to about ¥2.1 trillion in the coming year. As a result, its bond holdings are expected to shrink by ¥46.5 trillion next fiscal year, up from a ¥41.1 trillion reduction in the current period.

Banks and pension funds have been the primary buyers since the BOJ began loosening its control over bond yields. Since April 2023, their net purchases (after redemptions) have each exceeded ¥30 trillion. However, with net supply expanding, there are doubts about whether this demand will be enough.

This week, the yield on the benchmark 10-year Japanese government bond rose to 2.13%, its highest level since 1999.

Miki Den, a senior rates strategist at SMBC Nikko Securities, noted, “We estimate the fair value for the 10-year yield to be around 2.2–2.3% at present. It wouldn’t be surprising to see yields reach that range soon.”

Market Outlook and Policy Shifts

Yields are facing renewed upward pressure after BOJ Governor Kazuo Ueda indicated that further policy rate hikes are likely, following last month’s move to a three-decade high. Overnight-indexed swaps suggest the possibility of two additional rate increases by the end of 2026.

Bloomberg strategists’ perspective:

• Japanese bondholders may experience another year of negative returns.
• US Treasuries might not perform as well as many expect in 2026.

The yield on 10-year Japanese government bonds, which was negative in 2019, has surged by over 200 basis points during six years of persistent selling—a trend that could persist this year.

— Ven Ram, cross-asset strategist

Rising yields, especially on shorter-term bonds, could prompt the Ministry of Finance to further adjust its issuance strategy. Excluding treasury bills, total gross bond issuance is projected to dip slightly to about ¥133 trillion in the year through March 2027. Issuance of two- and five-year notes is set to increase, while supply of bonds with maturities longer than 10 years will decrease. The ministry plans to auction 30-year bonds on Thursday.

Tadashi Matsukawa, head of bond investments at PineBridge Investments Japan, stated, “The yield curve is likely to flatten as the supply of longer-term bonds falls and more short-term notes are issued. With inflation remaining persistent, we expect the BOJ to continue raising rates toward more neutral levels.”

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