Short-end JGBs up after auction but 10-years lag

TOKYO, June 26 - Japanese government bond prices were mixed on Friday, with the short-end extending gains after Thursday's solid two-year tender but the long-end underperforming ahead of next week's 10-year offering.

* JGBs were lifted in early trade by a record 1.1 percent drop in Japan's nationwide May consumer price index and after U.S. Treasuries gained on strong demand for seven-year notes and an unexpected jump in U.S. jobless claims.

* The JGB yield curve has taken on a distorted shape with short-end yields falling after Thursday's 2.4 trillion yen ($25 billion) two-year JGB auction, which attracted solid demand from cash rich investors despite a 400 billion yen issuance increase.

* But 10-year JGBs lagged ahead of next week's auction of the maturity, which will be raised by 200 billion yen to 2.1 trillion yen as part of Japan's effort to issue an additional 16.9 trillion yen of debt for the fiscal year 2009/10.

* The market is eyeing how next week's auction will proceed as 10-year JGBs do not have the same kind of core buy-and-hold clientele as other points on the yield curve, though banks and institutions are active in the maturity.

* Ten-year JGB yields were also nudged up by paying in the swaps market. "Due to the recent surge in stocks, paying emerged in these swap maturities related to structured products. Paying for the 10-year auction is not pronounced although it could gather momentum as the tender nears," said a trader at a Japanese trust bank.

* When stocks fall, derivatives dealers often receive in the swaps market to try to hedge interest-rate exposure tied to structured products they have sold to investors.

* The 10-year swap spread turned positive for the first time since January.

* September 10-year futures dipped 0.03 point to 137.60.

* The two-year yield fell 1.5 basis points to 0.305 percent and the five-year yield remained unchanged at 0.720 percent.

* The 10-year yield climbed 1.5 basis points to 1.395 percent and the 20-year yield was flat at 2.080 percent.

* The spread between two- and 10-year yields widened by 3 basis points to 109 basis points.

* Tokyo's Nikkei stock average gained 0.3 percent after jumping 2.2 percent on Thursday.