For months Japan's domestic investors have defied expectations that they would pile cash into overseas assets in a big way. Now, with U.S. Treasury yields above 2 percent for the first time in over a year, the lure may be just too strong.
Data on Thursday showed Japanese investors sold about $11 billion worth of foreign bonds last week in a second straight week of net selling.
Still, the appeal of holding U.S. bonds is expected to grow after benchmark 10-year Treasury yields spiked to about 2.24 percent on Wednesday, widening the spread with 10-year Japanese government bonds that yield around 0.90 percent.
"We should finally see the Japanese buy foreign bonds. I don't think they can ignore this 2 percent yield on Treasurys for much longer - it should whet their appetite," said Kathy Lien, managing director for foreign-exchange strategy at BK Asset Management. "And once we start to see that flow of funds from Japan that's when we could see a nice resurgence in the dollar/yen rally."
Analysts have been anticipating Japanese investors to snap up overseas assets in the face of yen weakness and a massive asset-purchase program unveiled in April to kick start economic growth.
One reason for this is that big domestic investors such as insurance and pension funds, traditionally big holders of Japanese government bonds (JGBs), are being squeezed out of the market by the Bank of Japan's (BOJ) bond-buying program.
The BOJ has said it would buy 7.5 trillion yen ($743 billion) worth of long-term bonds a month – that's roughly 70 percent of new debt issuance.
Another reason is that yen weakness makes it more attractive to hold foreign assets from a currency perspective, analysts say.
"The fact is that you have a weaker yen and likely low rates in Japan continuing and at the same time you have the potential for higher yields and a firm dollar in the U.S., so the potential is to make a currency gain from your investment overseas and a yield pick-up that looks greater than it did in the past," said Mitul Kotecha, head of global currency strategy at Credit Agricole.
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Kotecha said the rise in U.S. yields above 2 percent was significant in terms of potential fund flows out of Japan.
"My conversations with Japanese lifers [life insurance firms ] suggest that the move to 2 percent in yields will prove a very attractive level for them to go into Treasurys," he said. "The indications we have is that there will be a likely significant outflow of funds from Japanese lifers and insurance funds."
There was some skepticism, though, about the likelihood of fund outflows.
"The lack of outflows is not a surprise. For the first time in a decade the Bank of Japan has made domestic assets such as property and equities a viable investment for local investors," said Richard Yetsenga, head of global markets research at ANZ Bank in Sydney.
The benchmark Nikkei, despite its recent slump, is up almost 38 percent so far this year.
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According to Credit Agricole's Kotecha, the buying of foreign assets by Japanese investors is a trend that just takes time to get underway.
"Insurers have been conservative, we've had years where they've had domestic holdings so it is getting out of a mindset," he said. "And that does take time, it's like turning around a cruise liner, it's not going to be quick."
— By CNBC.Com's Dhara Ranasinghe; follow her on