TOKYO, Sept 21 (Reuters) - Japan' 9-year government bond yields rose to nearly 0.3% on Wednesday as markets test the Bank of Japan's resolve to pin down interest rates, while benchmark 10-year bonds were untraded for the second straight session.
The BOJ is expected to keep its ultra-low policy at a two-day meeting ending on Thursday, even as Japan's inflation has hit its fastest annual pace in nearly eight years and the yen is tanking as money flows from Japan seeking better returns abroad.
However, markets are increasingly doubtful that policy stance can last, with aggressive U.S. rate hikes pushing up the dollar and piling more pressure on the yen.
Yields on Japan's government bonds maturing in September 2031 rose as much as 2.5 basis points (bps) to a high of 0.295%, according to Tradeweb Markets, and ended at 0.285%.
The yield on 10-year bonds remained at 0.25%, the upper limit of the BOJ policy band. For a second straight day, the tenor saw no trades, the first such occurrence since newly issued 10-year bonds became the benchmark in 1999.
"The 10-year notes may not trade for some time unless conditions change," said Makoto Suzuki, a senior strategist at Okasan Securities.
"Market participants believe that underlying yields for the 10-year bonds are higher than 0.25% as they face further upward pressure from overseas."
Ten-year U.S. Treasury yields, by contrast, hit an 11-year high of 3.6% overnight as investors braced for a third consecutive 75 basis point Federal Reserve rate hike on Wednesday.
The divergence has been driving Japan's currency lower and lower this year and speculators have assailed the Japanese bond market in a wager that the central bank will eventually give up on the vast bond buying project that keeps yields pinned down.
"If the Bank of Japan had abandoned its support to keep the yields low, the 10-year yields could skyrocket above 0.3% easily," said a market participant at a domestic asset manager.
So far the BOJ has been steadfast and on Wednesday spent 1.26 trillion yen ($8.77 billion) on bond purchases to hold the ceiling of 0.25% on the 10-year yield, on top of 836 billion yen it poured in in the previous session.
But pressure is being felt along the curve and is evident in the central bank's increasing tempo of purchase offers.
On top of a standing offer to buy unlimited amounts of 10-year bonds daily, The BOJ on Wednesday conducted unscheduled bond buying.
The yield on bonds with nine years to maturity are above the target as they fall just outside the BOJ's primary target window and traders say bonds soon to roll out of the target tenor are crowded with short positions.
Ten-year JGB futures, another popular vehicle for short sellers, hit an almost three-month low on Wednesday.
The 20-year JGB yield rose to as high as 0.980%, its highest since January 2016. The five-year yield rose 1.5 basis points to 0.065%, its highest since June. ($1 = 143.7400 yen) (Reporting by Junko Fujita; Editing by Kim Coghill)
