Japanese government bond futures jumped on Thursday after an auction of five-year paper underscored strong investor demand for safe-haven debt as worries mount that the global economy is heading for a deep recession.

JGBs dipped in early trade even as the Nikkei share average < .N225> slid nearly 10 percent as investors fretted that normally safe-haven bonds could suffer more selling from foreign players and market makers needing to raise cash.

Bond dealers were also selling some JGBs, despite the Nikkei’s plunge, because the key repurchase market for funding their positions and inventories seized up last week.

Most market players believe bond yields will likely fall on mounting worries about the global economy, which was underlined by a Reuters survey showing confidence at big Japanese manufacturers hitting a six-year low this month. “The lack of liquidity is making it difficult for dealers and investors to take big positions,” said Akito Fukunaga, a fixed-income strategist at Credit Suisse. “But before long JGB yields will catch up to other markets and fall as worries are growing about the economic slowdown”.

December 10-year futuresrose 0.26 point to 136.06, recovering from a three-month low of 135.74 the previous day.

The benchmark 10-year yield dropped half a basis point to 1.575 percent.

The five-year yield fell 4 basis points to 1.130 percent, while the two-year yield was down a basis point at 0.785 percent.

“At some point, people will start to buy relatively safe assets,” said Naruki Nakamura, a portfolio manager who oversees about 400 billion yen of JGBs at Fischer Francis Trees & Watts.

Bids at the Ministry of Finance’s five-year JGB auction came to 3.04 times the 1.9 trillion yen ($18.9 billion) on offer, down only slightly from 3.15 at the previous month’s offer.

The difference between the lowest price and average price at the auction — a gauge of demand known as the ‘tail’ — was relatively tight at 0.03, despite fears that it would be much wider due to the caution among dealers.

Earlier in the day, the Reuters Tankan survey showed confidence at big Japanese manufacturers tumbled in October to a level not seen since Japan was going through a domestic banking crisis.

The poll also showed that most companies now expect the Bank of Japan to cut interest rates, though not all investors are convinced.

Late on Tuesday the BOJ held an extraordinary meeting to widen the scope of its money market operations and help the strained JGB repo market, but the central bank kept rates on hold at 0.5 percent.

The Nikkei’s slide was forcing some derivative dealers to keep receiving fixed rates in long-term swaps, the equivalent of buying bonds and dragging long-term JGB yields down.

The 30-year yield dropped 1.5 basis points to 2.210 percent, while the 30-year swap rate was down about 4 basis points at 1.910 percent.

That meant the 30-year swap spread was negative by 30 basis points compared with negative 25 basis points the previous day.

Negative swap spreads are very rare because swap rates tend to be higher than government bond yields due to the counterparty risks involved in the privately negotiated derivatives, especially at a time when fears of counterparty defaults are running high.

Source: http://www.afxnews.com

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