Disenchanted by the negative returns at home, Japanese investors are pumping historically high volumes of cash into overseas markets, with most of it paradoxically going into another developed market with negative policy rates - the euro zone.
While that may at first blush seem odd, their preference for euro zone bonds makes perfect sense in the current unusual world of negative rates.
Since both Japan and the euro zone have negative interest rates on some deposits, Japanese investors can hedge their purchases of euro-denominated bonds and still earn a decent return. Other foreign bonds are too expensive for them to hedge - protect from currency fluctuations.
Japanese investors bought 3.56 trillion Japanese yen (S$43 billion) of foreign bonds in February, their largest net buying in 5-1/2 years, Ministry of Finance data showed.
As yields on Japanese government bonds of up to 12 years to maturity fell below zero, Japanese banks and life insurers stampeded out of the yen and into foreign bonds. Most of them, however, use currency swaps or forwards to hedge the risk of investing in another currency.
In a trend that has gained momentum since Japan adopted negative policy rates in January, investors appear to favour French government bonds, choosing a market which offers higher yields than Germany but is at the same time liquid and safe.
"They are buying French bonds like crazy. It shows Japanese investors don't want to take credit risks," said Jun Fukashiro, fund manager at Sumitomo Mitsui Asset Management.
In January, just before the BOJ took rates negative, Japanese investors bought 974 billion yen worth of French bonds as they churned their cash from Britain and Germany. Aggregate net outflows for the month were a mere 35 billion yen, the smallest net buying since June 2015, when they were a net seller.
A corresponding factor in the massive Japanese hunt for yield in international markets has been a rise in foreign investment heading for the negative-yielding Japanese government bond (JGB) markets.
The Japanese have become willing to pay huge premiums to hedge their exposures to foreign currencies. That hedging, done through currency swaps, has resulted in a scramble to borrow dollars, ensuring foreign investors are richly compensated for putting money to work in the yen markets.
Foreign investors' buying in Japanese bonds jumped to 1.66 trillion yen February, its highest in four months, according to data from Japan's Ministry of Finance.
While a country breakdown is not available yet, France is likely to be a popular destination.
"Since the BOJ adopted negative rates, we are buying European bonds that have relatively attractive yields after deducting hedging costs, such as France and Belgium," said Hiroshi Ozeki, chief investment officer at Nippon Life Insurance Co, Japan's largest private insurer.
Although US Treasuries remain a core part of its foreign bond portfolio, Nippon Life is increasingly looking for other instruments for yield enhancement including US corporate bonds, on top of European bonds, Ozeki added.
The cost of currency swaps is based on interest rate differentials. Typically, to swap negative-yielding yen into higher-yielding US dollars for six months, a Japanese investor would have to pay a premium of about 1.3 per cent.
Five-year US Treasuries yield around 1.35 per cent , which would then leave the investor with almost no return.
Similarly, the cost of borrowing Australian dollars to invest in that market, another Japanese preferred investment destination in the past, is about 2.9 per cent for six months, well above the Aussie 10-year bond yield of 2.60 per cent.
In case of the euro, however, the hedging cost is almost close to zero, thanks to the negative interest rates adopted by the European Central Bank and lower basis for euro.
"The biggest attraction is the low funding costs... In many senses, European bonds will likely remain the most attractive," said Makoto Noji, senior strategist at SMBC Nikko Securities.
Analysts said the Japanese investors' outflows might have increased last month.
"Their hedging flows increased about a week after the BOJ's negative rates," said a forward trader at a major Japanese bank. "They are buying whatever bonds have higher yields than Japanese bonds. Some regional banks were coming to the market almost every day," said a currency swap trader at a major Japanese bank.
Meanwhile, the heavy demand for dollars in Japan has driven up the cost of those dollars, widening the dollar/yen currency basis to such an extent that a foreigner swapping dollars for yen for two years would earn 0.7 per cent.
That effectively means two-year JGBs yielding minus 0.2 per cent will still be yielding 0.6 per cent over dollar LIBOR. ($1 = 112.2000 yen)
(Reporting by Hedeyuki Sano; Additional reporting by Tomo Uetake and Yoshiko Mori; Editing by Vidya Ranganathan and Eric Meijer)