TOKYO, Dec 20: A surge in the premium demanded by investors for holding bonds issued by some major Japanese banks could be signaling the onset of a financial crisis, a senior credit analyst said on Thursday.
Japan is probably at the beginning of a financial crisis similar to the one in 1997-98, said Yoshio Shima, director of Credit Research at Credit Suisse First Boston Securities (Japan).
Reflecting the worries, five-year debentures issued by Industrial Bank of Japan, a member bank of Mizuho Holdings were quoted on Thursday at a spread of around 70 basis points (bps) over five-year Japanese government bonds (JGBs).
The interest-rate premium, or spread, over “safe” government bonds is a standard measure of investors’ willingess to assume risk by purchasing less creditworthy bonds.
Five-year senior bonds issued by Sumitomo Mitsui Banking Corporation traded around 34 bps over JGBs on Thursday.
Both bonds, rated A3 by Moody’s and BBB+ by Standard and Poor’s, had changed hands at just 20 bps over JGBs until early September when concerns about the banking system started to intensify.
The premiums have in fact narrowed by about 10 bps this week thanks to extra credit easing steps taken on Wednesday by the Bank of Japan aimed at preventing even sound firms with good credit ratings from running into liquidity problems.
But the premium on some bank bonds is likely to widen further and could spill over into a larger group of banks if the core bad loan problem is left unattended by the government, Shima said.
He warned that, unlike a fall in a bank’s share price, a slide in the price of its bonds directly affects its fund-raising ability and can easily expose it to a damaging liquidity shortfall.
Shima recalled that when the spread on Nippon Credit Bank (NCB) bonds soared to 700 bps over JGBs in April 1997, the rapid widening was seen as reflecting problems unique to the troubled bank.
But the risk premium gradually spread to other issues in the banking sector, including ones with good credit ratings, he said.
The surge in bank credit spreads was triggered by September’s failure of Japan’s fourth-biggest supermarket operator, Mycal Corp, followed by the collapse in November of US energy trader Enron Corp and Taisei Fire and Marine
Insurance Co.General contractor Aoki Corp also went under earlier this month.
Investors quickly cashed in bonds issued by banks with exposure to the failed firms, but Shima said the corporate collapses were just a trigger. He said the underlying malaise runs deeper. A fundamental cause of the surging premium is a loss of confidence in the banking industry, Shima said.
In a statement setting out the reasons for its sixth monetary easing of the year, the BOJ explicitly acknowledged the risk of even sound firms getting caught up in a credit crunch.
It said widening price differentials in the commercial paper and corporate bond markets were an inevitable accompaniment of structural reform.
But the central bank went on to say: There is concern that, if the deterioration in the financial environment goes too far and adversely affects financing by firms in good condition, it could exert downward pressure on economic activity and prices.
Tomoko Fujii, an economist with Nikko Salomon Smith Barney, said the tightening of financial conditions witnessed in recent weeks, coupled with a squeeze on profits, could deal a potentially crippling blow to a slew of Japanese companies.
Given the heavy refinancing schedule for corporate bonds, Fujii said in a report that pressure would mount swiftly.
From this standpoint, the primary question regarding the BOJ’s actions is, will the latest steps be enough to loosen broad funding conditions bank lending rates, bank lending attitudes, the corporate bond market, equity markets? she said.
Shima at CSFB said the government would have to play its part, too, backing up the BOJ’s liquidity measures by addressing banks’ bad loan problems possibly by pumping in more public funds and even nationalising some of them.—Reuters