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Record-high yields before 30-year sale attract dip buyers

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Investors wary about stimulus as dove Takaichi set to be

premier

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Japan yields also pulled higher by rises in US, French

yields

(Updates with latest prices, adds analyst quote in paragraph 4)

By Kevin Buckland

TOKYO, Oct 7 (Reuters) -

Japanese government bond yields retreated from record highs

on Tuesday after a closely watched sale of 30-year debt passed

smoothly, despite concerns that the country's likely

next prime minister

will loosen fiscal restraints.

The benign, if unspectacular, auction allayed

market jitters

that had pushed 30-year JGB yields up 6

basis points (bps) to an all-time time high of 3.345% in early

trading.

After the announcement, those yields reversed course and

were down as much as 5 bps at 3.235%. Bond yields move inversely

to prices.

The auction "provided the market with an unexpectedly

calm and reassuring signal," said Shoki Omori, chief desk

strategist at Mizuho Securities.

However, "durable calm hinges on fiscal policy signals

and subsequent super-long (JGB) supply," he added.

Weak demand at long-term debt auctions earlier this year

triggered record spikes in yields that prompted the Ministry of

Finance to curtail issuance of 20-, 30-, and 40-year securities

- something that analysts and investors say has improved the

supply-demand balance.

The 20-year JGB yield climbed 5 bps in

early Tuesday trading to 2.74%, the highest since August 1999,

but also flipped direction after the auction and were down as

much as 3 bps at 2.66%.

The 10-year yield, which had risen 2.5

bps to 1.695% for the first time since July 2008, erased that

advance.

Long-dated JGB yields jumped sharply on Monday in the

immediate aftermath of fiscal dove Sanae Takaichi's victory in

the ruling Liberal Democratic Party's (LDP) weekend leadership

elections, setting her up to take over the premiership from

Shigeru Ishiba, a fiscal hawk.

Ironically, that yield surge was likely responsible for

the decent level of demand at Tuesday's sale, said Naomi

Muguruma, chief bond strategist at Mitsubishi UFJ Morgan Stanley

Securities.

"Yields rose so much ahead of the auction that it

invited dip buyers," she said.

But as to whether the climb in yields and concerns about

Takaichi's policies are overblown, "we just don't know yet,"

Muguruma said.

"Takaichi is pushing 'responsible fiscal expansion,' and

we don't know what that really means."

Additionally, a lot will depend on the outcome of

negotiations both within the LDP and with opposition parties in

forming the next government, Muguruma added.

A veteran lawmaker, Takaichi is a devotee of the

"Abenomics" stimulus policies of the late Shinzo Abe, who called

for loose fiscal settings and ultra-low interest rates to revive

the economy.

Her win saw swaps traders rapidly adjust expectations

for a Bank of Japan

interest rate hike

this month, with market-implied odds dropping to around 26%

currently from 37% on Friday, according to LSEG data.

Japan's two-year bond yield - which is

highly sensitive to monetary policy expectations - plunged as

much as 5 bps to a three-week low of 0.89% on Monday, but undid

part of that in the current session with a 1 bp rise to 0.905%.

The five-year JGB yield added 2 bps to

1.21%, undoing the bulk of Monday's slide.

Japanese yields were also subjected to broad upward

pressure on Tuesday following climbs in global yields overnight,

particularly for French OATs following the rapid

collapse

of the new government there, and for Treasuries as the U.S.

government

shutdown

drags on.

($1 = 150.42 yen)