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What are the risks of Japan's pension fund rebalancing?
Economy
The analysis follows statements by Finance Minister Satsuki Katayama, who called on pension funds to increase their allocation to Japanese financial assets.
A possible shift by Japanese government pension funds from foreign bonds to domestic assets will support Japanese government bonds and strengthen the yen, while having a lesser impact on US and European debt markets, according to analysts at BofA Securities.
No official changes to asset allocation have been announced. BofA modeled a hypothetical five-percentage-point shift from foreign bonds to Japanese government bonds (JGBs) to assess the potential market impact.
Japan's four largest government pension funds manage assets totaling approximately ¥417 trillion ($2.6 trillion). Each percentage point change represents a reallocation of approximately ¥4 trillion, with a five-point shift amounting to approximately ¥21 trillion ($128 billion).
This volume of purchases will exceed the monthly gross JGB issuance volume and significantly exceed the monthly net supply. Demand is likely to increase across the yield curve, with the 10- to 20-year bond segment experiencing the strongest impact.
The GPIF has recently favored five-year JGBs: the weighted average maturity of the fund's 15 largest domestic bond positions has decreased from 9.6 years in FY2023 to 7.3 years in FY2025.
In foreign exchange markets, the ¥21 trillion purchase of yen could stretch out over several months. This amount is almost double Japan's ¥11.7 trillion in foreign exchange interventions in April-May and could move the USD/JPY exchange rate by several yen.
The euro will experience the greatest relative pressure among the G10 currencies, followed by the British pound, the US dollar, and the Canadian dollar. The model assumes potential sales of $67 billion in dollar assets and $42 billion in euro-denominated assets.
The US Treasury bond market could absorb $65 billion in sales without significant disruption, although interest rate swap spreads over a 5-10-year horizon could widen by one or two basis points.
European government bonds could face more significant pressure at the country level. Potential sales of approximately €10 billion in French bonds would amount to approximately 6% of the country's net supply in 2026—and this is against a backdrop of existing fiscal and political challenges.