Changing Investor Structure of Japanese Corporate Bond Market under Zero Interest Rate Environment

Since the financial instability during 1997-98 subsided, the Japanese corporate bond market has seen a substantial narrowing of credit spreads under the strong monetary easing by the Bank of Japan. With the narrowing of credit spreads, bond investors seem to have become cautious of a large potential capital loss once a reversal of credit spreads happens (i.e. negative skewness of bond return distributions). Theoretically, investors can be categorized into three types depending on the way they evaluate the risk-return profile of bond returns. The first type are risk-cautious investors who take into consideration the skewness risk. The second type are traditional investors who focus on the mean and the variance of the returns, but not necessarily the skewness. The third type are those who are interested solely in the mean of the returns. As credit spreads narrowed, particularly of relatively low-rated bonds, the first type like overseas investors and the second type such as domestic institutional investors may have become more cautious about investments in Japanese corporate bonds.