TOKYO -- Expectations of a rise in U.S. interest rates have pushed the cost of buying dollars with yen to a nine-year high, a potential blow to Japanese banks seeking more business abroad as ultra-low rates squeeze domestic returns.
Japanese financial institutions must procure dollars when lending to American companies or investing in U.S. debt. Swapping yen for greenbacks cost an annualized 1.972% above market rates at the end of November, according to Yuuki Fukumoto of the NLI Research Institute. This is the highest since September 2008, when the global financial crisis sparked a scramble for dollars that sent the premium as high as 5.396%.
High demand and a widening gap between U.S. and Japanese interest rates are the two main factors that drive up dollar funding costs for Japanese financial institutions. Fukumoto calculated the interest rate spread based on such data as the three-month London Interbank Offered Rate. Though a tighter market for dollars -- owing partly to new U.S. financial regulations -- played a role in raising borrowing costs last year, the current increase stems mainly from interest rates, Fukumoto said.
Investors see a 90% chance that the U.S. Federal Reserve will raise rates at the Federal Open Market Committee's next meeting Dec. 12-13. A hike probably would send yields on short-term U.S. debt higher. Meanwhile, Bank of Japan Gov. Haruhiko Kuroda said Monday the central bank will maintain an accommodative monetary policy to achieve its goal of stable inflation around 2%.
Money tends to flow to where interest rates are higher, making it more expensive to borrow currency in the market with higher rates.
Japanese banks are taking steps to minimize the impact of this trend on profits. Amassing more foreign-currency deposits as an alternative source of dollar funding is one option.
Mitsubishi UFJ Financial Group's deposits in the Americas, mostly in dollars, averaged 17.1 trillion yen ($151 billion) for the first half of fiscal 2017, based on exchange rates at the end of September, representing an increase of more than 5% on the year and a roughly 15% rise from two years earlier. Sumitomo Mitsui Financial Group's overseas deposits rose about 14% on the year to $186 billion at the end of September.
Banks are also seeking direct dollar funding via bonds. MUFG raised $4.9 billion from dollar-denominated and other bond floats outside Japan in April through September -- more than half the $8.5 billion total for all of fiscal 2016. Mizuho Financial Group's outstanding foreign-currency debt rose about 13% in the year through September.
Life insurers such as Nippon Life Insurance and Dai-ichi Life Holdings are looking to buy more foreign bonds to improve returns weighed down by extremely low domestic interest rates. But some are reducing their holdings of dollar-denominated assets, instead using cheaper euros to buy European bonds.