Will the Bank of Japan Finally Hike Rates?

Join host Elizaveta Gridneva as she sits down with Nicholas Ng of Daiwa Asset Management to unpack Japan’s potential shift toward higher interest rates. Together, they explore what a BOJ hike could mean for yields, market sentiment, and the strategies investors across Japan and the Asia-Pacific region are gravitating toward.

Summary – IBKR Podcasts Ep. 329

The following is a summary of a live audio recording and may contain errors in spelling or grammar. Although IBKR has edited for clarity no material changes have been made.

Elizaveta Gridneva 

Hi everyone. Welcome to IBKR Podcast. My name is Elizaveta Gridneva. Today we’re back with episode two in Japan, and we have Nicholas from asset management. 

Nicholas Ng 

Thank you very much for having me back, Eliza. It’s great to be back and speak with the audience. 

Elizaveta Gridneva 

Great to have you. There have been interesting developments in Japan since our last conversation. The Bank of Japan Governor Kazuo Ueda hinted this week that they might increase rates soon, highlighting that it could happen at the BOJ December meeting. Is this your base case scenario as well, and do you expect a big impact on markets? 

Nicholas Ng 

Thank you very much for the question. For Daiwa Asset Management’s house view, it’s been our expectation for most of the year that the BOJ will hike by 25 basis points sometime this year. It looks like the hike will likely be this month in December. Even looking at overnight index swaps, it appears there’s about a 90% chance of a rate hike. 

A lot of investors have been asking us why Japanese bond yields have been rising. They’re now around 1.9%, the highest level since 2007. We think it’s for two reasons. The first is the BOJ rate hike you mentioned. The second is the Akai Cabinet’s massive economic stimulus package. A few weeks ago, an economic stimulus package of around 136 billion US dollars was announced, which is more than the market’s expectation of 108 billion US dollars—about a 25% increase. This has obviously caused yields to rise. The reason for the stimulus package is to stimulate the economy, potentially offset negative impacts from tariffs, combat inflation, and support consumers. The market is concerned about how the Japanese government will finance this. The government will issue bonds, which means more bond supply circulating in the market, and that tends to push yields higher. That’s the concern for the market at the moment. 

Elizaveta Gridneva 

Great answer. Thank you, Nick, for the detailed explanation. My next question is about the investor base in Japan. Do you see any meaningful difference in investment approach between domestic investors and international ones? Do they focus on different sectors, time horizons, or stock profiles? 

Nicholas Ng 

Sure. When it comes to investor preferences, especially with rising yields, foreign investors have been more cautious and concerned about how rising yields might affect their investments. This is quite different from domestic investors. Foreign investors focus on debt-to-GDP ratios—Japan’s is the highest in the world. In 2020, Japan’s debt-to-GDP ratio was around 260%, but in the last five years, it’s come down to 230%. The big difference is that domestic Japanese investors are less negative because around 90% of Japanese debt is owned by domestic investors, and only 10% by foreign investors. Of the domestically held debt, 40–50% is owned by the Bank of Japan, and the rest is split between deposit-taking institutions such as banks, pension funds, and insurance companies. For domestic Japanese investors, it’s almost like the government is lending to itself—left pocket to right pocket. For foreign investors, the major concern is that if borrowing costs rise, the government may not be able to repay its debt and could potentially default. 

Elizaveta Gridneva 

I understand. Coming back to our last episode, we covered a range of investment strategies. What are some strategies of interest today for investors? 

Nicholas Ng 

I’ve been fortunate to work with investors across Asia this year, and the most popular strategies have been defensive ones, such as dividend strategies and real estate-related strategies. Investors are looking at these because of global uncertainty, potential political tensions, and increased volatility. They want income, diversification, and lower overall volatility. 

Elizaveta Gridneva 

Understood. Can I ask you to share an overview of high dividend strategies? 

Nicholas Ng 

High dividend strategies have been really popular inside and outside Japan this year. This is driven by corporate reforms in Japan. A lot of corporates have been holding too much cash, and paying higher dividends is beneficial for shareholders. Looking at dividend forecasts for the next year or two, the average dividend per share growth rate is expected to be around 8–9% per annum, so there’s healthy growth in the next couple of years.

Elizaveta Gridneva 

I understand. My last question: could you share an overview of Japanese rate strategies? 

Nicholas Ng 

When it comes to Japanese Real Estate Investment Trusts, or J-REITs for short, these have also been incredibly popular this year. The major difference between Japanese REITs and global REITs is that for Japanese REITs, the sponsor is not allowed to develop or refurbish the underlying properties, whereas global REITs can redevelop the underlying properties. The behavior between Japanese REITs and global REITs is quite similar—usually, if interest rates start to rise, this can be negative for REITs, and that’s also the case in Japan. However, this year Japanese yields have risen to 1.9%, yet Japanese REITs are up around 20–25% on a total return basis. The correlation between Japanese REITs and yields has broken down this year for a few reasons. 

The first reason is Taaka Ichi being elected as a new leader. This is positive for REITs because her view is more dovish, and there’s a chance of slower rate hikes, which benefits REITs. The second reason is valuations. Most people look at price-to-net-asset-value (NAV) ratios, and currently J-REITs trade around 0.9 times price-to-NAV, which is a slight discount. Historically, J-REITs have traded at about 1.1 times price-to-NAV over the last 20 years. So if an investor wants exposure to Japanese real estate, they could buy property directly, but they may pay a premium. Through a J-REIT strategy, they can acquire exposure at a discount. Finally, from a fundamental perspective, inflation is helping J-REITs perform well. In sub-sectors such as retail or residential, tenancy agreements typically roll every year or two, and inflation has allowed rents to increase with each new contract. Surprisingly, in longer-term sub-sectors like logistics or hotels, sponsors have introduced inflation-linked or CPI-linked tenancy agreements. This means longer-term leases—three, five, or even ten years—can benefit from inflation. 

Elizaveta Gridneva 

Great. Thank you, Nick, for your interview today. Always informative, detailed responses. I learned quite a lot. 

Nicholas Ng 

Thank you very much for having me back, Eliza.