Japan’s regional banks turn to private equity, hedge funds for returns

JAPAN’S regional banks are turning toward private equity, hedge funds and real estate in search of higher returns as regulatory concerns restrict ownership of foreign bonds.

Alternative assets was the favored choice of investment for five lenders, according to a Bloomberg survey of 11 regional banks conducted in August. Foreign bonds was picked by three respondents, while none of the lenders said they found Japanese government bonds (JGB) attractive given depressed yields.

Japanese banks are following the nation’s largest insurance companies in considering more alternative assets as choices narrow with the Bank of Japan (BoJ) committed to holding down the benchmark bond yield at around zero percent. Overseas debt holdings have also come under scrutiny by the Financial Services Agency after investors suffered losses last year when Treasury yields surged following the election victory of US President Donald Trump.

“It’s like banks’ hands are tied with regulation while the BoJ is strangling their neck,” said Yasunobu Katsuki, a senior analyst at Mizuho Securities Co. “What’s markedly different this fiscal year is there’s virtually no market to eke out profits. That discourages risk taking for higher returns as there is little buffer to offset any losses.”

Asset allocation will become more difficult under new regulations, according to six of the 11 regional lenders which responded to the survey.

Seven banks see unfavorable investment conditions for domestic bonds for the fiscal half starting Oct. 1.

Japan’s regional banks owned 28.7 trillion yen ($262 billion) of JGBs as of end July, or about a third of the holdings by all lenders, down from 32 trillion yen at the end of January.

Chiba Bank Ltd., the secondlargest regional lender by market value, said in July that the “very difficult environment for investment” meant it would stay “immobile.” That view was echoed by a respondent in the survey, which said that a “sense of being in a stalemate is heightening as attractive assets are dwindling.”

The 10- year Treasury yield slipped to near 2% after peaking at around 2.63% this year. The Japanese benchmark bond fell below zero percent in September, while the nation’s Nikkei stock average is up just 2.5% since Japan’s fiscal year started in April.

Of the respondents, 10 banks expect the benchmark JGB yield to be between 0.05% and 0.1% by the end of the fiscal year. The 10-year yield was at 0.025% on Tuesday.

“We are diversifying allocations to foreign debt or investment trusts as returns from yen bonds have diminished significantly under the Bank of Japan’s negative-rate policy,” Nanto Bank Ltd., the fourth-largest holder of foreign assets among the country’s 64 regional lenders, said in its response to the survey. Still, the head of Nanto Bank’s investment management department said last month that it plans to trim overseas holdings by 80 billion yen by March because of the new regulatory requirements.

The banks were split on the outlook for foreign bonds. Four said the market is improving compared to their initial forecasts at the start of the fiscal year, while three of those surveyed said conditions have worsened. The remaining lenders said yields are tracking within projections.

Of the surge in US Treasury yields last year, five of the lenders said it caused “significant damage” to their portfolios. Income from investment at Japanese banks fell 1.1% in fiscal year 2016, according to data from the bankers association. — Bloomberg