By Lisa Twaronite, MarketWatch
TOKYO (MarketWatch) Standard & Poor's move to cut its outlook on Japan's sovereign rating wasn't good news but it wasn't exactly a bear-raid clarion call, either.
S&P said Wednesday that it was downgrading its outlook on Japan's AA-minus credit rating to negative from stable, reflecting the potential for a downgrade if the country's fiscal situation deteriorates more than expected in the wake of the March 11 earthquake, tsunami and subsequent nuclear crisis. Read more on S&P's Japan outlook cut.
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Thousands of military personnel from the Japanese Self-Defense Force conduct a third massive search for the bodies of victims of the country's March 11 earthquake and tsunami.
But Japanese government bond, or JGB, futures ended higher after the move, because the domestic investors who hold 95% of JGBs have other things on their minds.
Fiscal woes? Sure, everyone here knows they're bad and will just get worse for a while. This is due to very obvious disaster-related reasons that aren't surprising to anyone looking at the scenes of devastation on the local news every day.
Last week, Treasurys put in a similar performance, ending higher in U.S. trading on the day S&P cut its ratings outlook on the U.S. to negative from stable. Read more on S&P cut to U.S. outlook.
But that was a bit different Treasurys got a lift because the outlook downgrade weighed on U.S. stocks. By contrast Wednesday, Japan's Nikkei Stock Average /quotes/comstock/64e!i:ni225 JP:NI225 +1.39% added 1.4%.
JGBs shrugged off the outlook cut because they're "immune to rating downgrades as Japan's fiscal problem has been well known to the market participants and will not force domestic investors to change their investment plans," said RuiXue Xu, a rates strategist in Tokyo at RBS Securities Japan Ltd., in a note to clients Wednesday.
'Foreign bear raids'
To be sure, there are a few bears in the woods namely, the non-Japanese investors who've been dumping JGBs in recent weeks, even as they were net buyers of Japanese stocks. Read more on Japan fund flows.
Some of these investors have bought short-term bills even as they sold long-term JGBs, betting that the yield curve will steepen as Japan's fiscal condition deteriorates and the Bank of Japan keeps interest rates on hold.
"There is a certain group of overseas investors attempting to profit from bear raids on the JGB market. They have carried out numerous raids, but in each case were eventually forced to retreat after meeting strong resistance from domestic investors," said Richard Koo, chief economist at Nomura Research Institute
Koo, who's also a former economist with the Federal Reserve Bank of New York, said in a report this week that the Bank of Japan would have nothing to lose by fighting off these "foreign bear raids" and buying more government bonds under its quantitative-easing program.
"At a time of extremely weak private loan demand, any liquidity released onto the market by such purchases of JGBs by the Bank has a negligible probability of triggering inflation," he said, adding that the central bank could then sell the JGBs back to the market at measured pace.
Koo is no fan of rating agencies in general, which he said are "threatening to destroy the global economy again."
First, he said, they inflated a massive asset bubble by "cavalierly" assigning triple-A ratings to securitized assets created from subprime loans. And now they're "downgrading the debt of governments that are trying to provide the fiscal stimulus needed to address the balance sheet recessions triggered by the bubble's collapse," he said.
Koo wrote the book literally on "balance-sheet recessions," which happen when companies pay down their debts instead of investing, and the economy languishes.
The only cure for it, he said, is the fiscal stimulus that the rating agencies loathe so much, making governments reluctant to doing it.
"But by refusing to increase the fiscal deficit at a time when the private sector is also saving more, the government could trigger a recession and, ultimately, a decline in tax revenues and a larger fiscal deficit," he said pointing out that this happened in Japan in both 1997 and 2001.
And if there's one thing that investors in Japan have learned in the past few weeks, it's that things can go from bad to worse very quickly.
Lisa Twaronite is MarketWatch's Tokyo bureau chief.