In a year likely to see plenty of change, we forecast general stability for Japan's securitization market.

S&P Global Ratings expects underlying assets for owner-occupied residential mortgage-backed securities (RMBS), condominium investment RMBS, consumer loan asset-backed securities (ABS), and commercial mortgage-backed securities (CMBS) to perform stably in 2025.

Assets backing apartment loan RMBS and corporate loan ABS are likely to somewhat underperform, in our view.

We consider RMBS, ABS, and CMBS to be the representative asset classes of Japan's securitization market.

Table 1

Japan Macroeconomic Scenario

We expect Japan's GDP to grow 1.3% in 2025 (see table 2). It grew 0.2% in the third quarter of calendar 2024 (ended Sept. 30, 2024). In that quarter, fixed investments remained sluggish while consumption expanded. We believe that GDP will grow moderately through 2025, driven by increases in real household income and personal consumption as wages rise. Additionally, we forecast that Japan's GDP will grow 1.0% from 2026 to 2027.

We will closely monitor the impact of the change of administration in the U.S. in January 2025 on the global economy.   There is uncertainty around potential policy changes in the U.S. These would likely affect not only U.S. economic growth, inflation, and interest rates, but also economies in other parts of the world.

Table 2

We expect Japan's policy interest rate to rise to 0.75% in 2025 and then to 1.25% toward 2027.   The Bank of Japan (BOJ) assesses that its inflation target of 2% is achievable in a sustainable and stable manner. It raised the policy rate, which was negative, in March 2024. This was the end of its negative interest rate policy, which was introduced in 2016. Subsequently, it raised its policy rate to 0.25% in July 2024. In December 2024, the BOJ indicated that it will likely in 2025 raise the rate again, after considering the outlook for the U.S. economy and trends for wages and prices in Japan (see table 3).

Table 3

We expect Japan's inflation rate to hover around 2% from 2025 onward.   In 2024, Japan's inflation was 2%-3% (see chart 1). Disinflation occurred in some other major countries. Meanwhile, real wages in Japan turned positive for the first time in 27 months in June 2024, thanks to wage increases achieved through the annual negotiations held in spring. Real wages then turned negative again. However, they are now showing signs of bottoming out.

A significant increase in real wages is unlikely. However, we recognize potential positive factors. These include bonus payment levels in the winter of 2024 and the results of annual spring negotiations on wages in 2025

Chart 1

Higher interest rates and inflation will increase borrower spending.   This brings higher risk of delinquencies and defaults on consumer loans, unless there is an increase in wages. According to the Ministry of Internal Affairs and Communications' household survey (savings and liabilities section, data for workers' households consisting of two or more persons), debt for housing and land has increased since 2023 as inflation has driven up property values while real wages decline (see chart 2).

The burden of loan repayments is increasing for households that took out residential mortgages before inflation took hold. This is because real wages are decreasing. However, inflation has pushed up the value of properties. We believe this has mitigated the risk of credit deterioration. On the other hand, not only lower real wages, but also higher loan amounts given higher property prices are weighing on the repayment capacity of households that acquired property and borrowed after the onset of inflation. Changes in the macroeconomic environment, such as an unexpected rise in interest rates, could have a significant impact on the performance of borrowers.

Chart 2

We expect Japan's employment environment to remain generally strong.   We forecast Japan's unemployment rate will be 2.5% from 2025 to 2027 (see table 4). To project the performance of consumer loans in the rated RMBS and ABS transactions, we closely monitor metrics related to employment, such as the unemployment rate. This rate was low even during the pandemic, underpinning the strong performance of consumer loans.

Table 4

Owner-Occupied RMBS And Condominium Investment RMBS

Performance outlook for underlying assets is stable

The outlook is stable in 2025 for assets underlying RMBS transactions backed by loans for purchasing owner-occupied houses (owner-occupied RMBS) and RMBS transactions backed by loans for investments in condominiums (condominium investment RMBS).

The BOJ raised its policy interest rate in 2024 for the first time in about 17 years. In our economic outlook, published November 2024, we forecast the rate will rise to 1.25% by 2027. As interest rates increase, so do debt-to-income (DTI) ratios for new loans. This indicates the repayment capacity of borrowers will decrease. Currently, over 90% of the interest rate types for new residential mortgages in Japan are floating rate loans, including fixed-term options. Nearly 100% of condominium investment loans are floating rate loans.

In Japan, where interest rates have long been low and stable, many borrowers of floating-rate loans face rising rates for the first time. We believe that an unexpected sharp increase in interest rates could worsen the performance of mortgage loans. Monthly repayment amounts would increase by about 20% if there was a 1% rise in the applicable interest rate.

For floating-rate owner-occupied residential mortgages, where applicable interest rates are reviewed every six months, the actual monthly principal and interest repayment amount is often reviewed every five years. The impact of rising interest rates on mortgage loan performance is mitigated in the short term because of this.

In our economic outlook published November 2024, we forecast the unemployment rate will remain stable at 2.5% through 2027. Government initiatives related to the business community have led nominal wages to continue to rise, with signs of a bottoming out in real wages beginning to emerge. Since the primary source of repayment for residential mortgages is borrowers' regular salary income, we consider a robust employment environment as a supporting factor for performance.

Residential land prices are trending upward nationwide, especially for condominiums in major metropolitan areas. This will increase collateral value, particularly for seasoned loans, which we believe is a positive for borrowers' creditworthiness. Meanwhile, the likelihood of a decline in collateral value may increase for recently executed loans for investment in condominiums in the Tokyo metropolitan area.

Rating trends will likely be stable

We expect rating trends for owner-occupied RMBS and condominium investment RMBS to be stable in 2025.

Interest rate increases do not directly affect the performance of owner-occupied residential loans. This is because loans underlying owner-occupied RMBS transactions in Japan are mainly based on fixed rates. For transactions with sequential payment structure, repayment of senior tranches has boosted credit enhancement, providing an additional buffer against a stressed environment.

We anticipate that rising residential land prices in recent years will lead to higher collateral value and have a positive impact on the credit quality of RMBS transactions, particularly seasoned ones.

Apartment Loan RMBS

Performance outlook for underlying assets is somewhat negative

We expect the performance outlook of assets underlying RMBS transactions typically backed by loans to landowners who build rental apartment buildings (apartment loan RMBS) to be somewhat negative in 2025.

Both delinquencies and defaults of loans underlying apartment loan RMBS transactions that we rate remained low throughout 2024. This is despite the average seasoning of about 20 years. Apartment loan borrowers typically enter long-term master lease contracts with apartment builders or other parties. This allows them to receive stable master lease rent income, regardless of actual vacancy rates or apartment rents. The primary source of repayment for apartment loans is rental income from properties rather than borrowers' salaried income. Stable cash flow under master leases supports the performance of underlying loans, in our view.

The total number of rental housing units is trending upward. However, Japan's population started to decline in 2011 as it rapidly ages with a declining birth rate. The National Institute of Population and Social Security Research expects the number of households to decline after peaking in 2030. A decrease in demand for rental housing units will lead to higher vacancy rates and lower property prices. This could weigh on the performance of apartment loans.

Apartment loans usually involve larger amounts than those for owner-occupied residential loans. Also, apartment loans typically have floating interest rates. A rise in interest rates would have a large impact on interest and principal repayments. The impact of higher interest rates would be greater if inflation cannot be passed through to rents in a timely manner.

Rating trend will likely be stable

We expect the overall rating trend of apartment loan RMBS to be stable in 2025.

Stress factors for the performance of underlying apartment loans would include interest rate increases and lower demand for rental apartment units due to demographic issues. However, the apartment loan RMBS that we rate typically have some buffer to their credit enhancement because they are seasoned for a long time and the ongoing amortization of senior tranches provides additional credit enhancement.

ABS Backed By Consumer Receivables

Performance outlook for consumer receivables is stable

We expect performance of consumer receivables backing ABS transactions to be stable in 2025. Auto loan receivables, shopping credit receivables, credit card receivables (shopping and cashing receivables), and consumer loan receivables back the transactions.

The default rate on ABS transactions we rate that are backed by auto loans has increased gradually since 2021 but remains low at 0.2%-0.3%.

Given that auto loan borrowers are individuals, we believe that the default rate on auto loans and the unemployment rate is highly correlated. We expect Japan's unemployment rate to remain 2%-3% in 2025, which is unlikely to affect auto loan borrowers' creditworthiness.

Real wages temporarily turned positive for the first time in 27 months in June 2024. However, this is unlikely to have a significant impact on improving borrowers' ability to service debt because real wages have been negative for more than two years. In addition, we forecast inflation will be in the 2% range in 2025 and will negatively affect borrowers' repayment capacity. However, obligors in the rated transactions have relatively high quality. We see a limited likelihood of defaults increasing substantially.

Additionally, auto loans backing the rated ABS transactions are increasingly balloon-payment loans. Monthly payments on such loans are low, which reduces the occurrence of defaults. On the other hand, under such loans, obligors typically choose at final repayment to either pay the remaining loan balance in a lump sum, return the purchased vehicle, or refinance. Default risk heightens in the case of lump-sum repayment as the amount can be substantial. However, we expect used vehicle prices to remain unchanged for the time being.

Obligors can opt to make full repayment by selling or returning purchased vehicles to the originator or dealers. This increases the likelihood of full repayment. A significant increase in default risk on auto loans with balloon payments is likely to be limited, in our view.

We expect the prepayment rate on loans underlying auto loan ABS we rate to remain high in 2025. Conditions in the used car market also affect the prepayment rate, in our view. According to data from Japan Automobile Dealers Assn., sales of new cars, including mini cars, totaled about 4.09 million units from January to November 2024, down about 7% year on year.

We observed an upward trend in contracted prices of used cars at auction. We attribute this in part to increased demand for used cars in line with the decline in new car sales. We do not anticipate any major changes in new car sales. Demand for used cars is likely to remain stable at a certain level.

Furthermore, we believe more loans with balloon payments could lead to higher prepayment rates. This is because of the terms of such loans, as described above.

Rating trend will likely be stable

We expect our ratings on ABS transactions backed by consumer receivables to remain stable in 2025. We see only a limited possibility of negative rating actions for the following reasons. First, we have assigned 'AAA (sf)' ratings to all auto loan ABS transactions we rate. Performance of the underlying assets for these transactions is likely to remain stable. Second, the ongoing amortization of the rated classes is providing additional credit enhancement.

ABS Backed By Corporate Receivables

Performance outlook for corporate receivables is somewhat negative

We expect the performance of corporate receivables backing ABS transactions to be somewhat negative in 2025.

Default rates of pools of corporate receivables generally trend in line with corporate bankruptcies in Japan. According to Teikoku Databank Ltd., cumulative bankruptcies from January to November 2024 totaled 9,053, which is about 18 points higher compared with same term last year. Bankruptcies decreased temporarily during the pandemic but have continued to increase year on year since May 2022. We expect bankruptcies in 2025 to remain about the same as in 2024.

The number of so-called zero-zero financing loans due appears to have peaked around April 2024. However, bankruptcies remained high thereafter. Zero-zero loans, extended to help businesses get through the pandemic, are unsecured and substantially interest-free, with a repayment deferment period.

According to the BOJ's Tankan survey as of December 2024, forecast business sentiment for all enterprises worsened. It fell three points for manufacturers and six for nonmanufacturers. A drastic improvement is unlikely.

Macroeconomic conditions will remain challenging, mainly for small and midsize enterprises (SMEs). In our view, inflation, higher interest rates, and labor shortages are the main factors behind this. We forecast an inflation rate of about 2% in 2025. We believe it will be difficult for SMEs, which are a major obligor category in securitization transactions, to pass on cost increases to their customers. Increases in various costs, including raw materials, transportation, and labor costs, could weigh on their operations. Additionally, financial institutions are moving to raise short-term prime rates they offer. This may inflate funding costs for SMEs.

The labor shortage is another major concern for SMEs. In the BOJ's Tankan survey, employment conditions for all enterprises and industries deteriorated, with the employment conditions diffusion index (excessive employment minus insufficient employment) standing at negative 36 points as of December 2024. The employment conditions diffusion index further deteriorated in forecast to negative 41 points. The labor shortage is a significant problem for transportation companies, the main obligors of receivables backing auto lease ABS transactions. Bankruptcies in this sector are likely to be high in 2025.

CMBS

Performance outlook for commercial real estate is stable

The value of properties backing Japanese CMBS, including office buildings, rental apartment buildings, and distribution and warehouse facilities, will likely remain largely unchanged in 2025.

Office buildings

We predict the value of office buildings will likely be flat in 2025. Although office supply is likely to increase, supply-demand balance will soften to a limited extent as demand for office spaces is likely to remain solid on the back of strong corporate performance.

According to Miki Shoji Co. Ltd., the average rent and vacancy rate in office buildings in Tokyo's business districts as of November 2024 were ¥20,076 per tsubo (about 3.3 square meters) and 3.9%, respectively, an improvement from ¥19,579 and 5.3% in the previous year. An office expansion and relocation diffusion index for the central Tokyo area shows demand for office spaces, which was temporarily stagnant during the pandemic, is in the recovery phase. The index is jointly provided by NLI Research Institute and Sanko Estate Co. Ltd.

We believe demand for office spaces will remain solid in 2025. The BOJ's monetary policy revision may affect capitalization rates in the future. However, a recovery in demand for office spaces will reduce the risk premium, which should somewhat limit a rise in capitalization rates and the resulting downward pressure on the value of office properties.

Rental apartment buildings

We expect the value of rental apartment buildings to remain flat in 2025.

Rents for condominiums in the Tokyo metropolitan area have been rising in recent years and remain high, according to data published by Tokyo Kantei Co. Ltd. Capitalization rates reported in the Japan Real Estate Institute's real estate investor survey have been flat, which we believe demonstrates solid demand for rental apartment buildings. Also, data from Real Estate Economic Institute Co. shows that the number of new condominiums sold in the Tokyo metropolitan area has been decreasing gradually over the past 10 years. However, we expect robust demand to continue, as supply is unlikely to increase given that developers' land acquisitions are declining. Hence, we expect condominium prices in 2025 to largely remain unchanged from the previous year. On the other hand, prices may soften especially for condominiums in Tokyo because of negative reaction to high prices.

Distribution and warehouse facilities

We expect the value of distribution and warehouse facilities to remain unchanged in 2025 based on the following:

• Demand remains strong, mainly in the e-commerce and distribution industries.
• Investment demand from domestic and overseas investors remains strong.

According to CBRE Inc., vacancy rates in the third quarter of 2024 for large multitenant distribution facilities deteriorated to 10.1% from 8.9% in the same period last year due to increased new supply. However, new demand remains strong and is not slowing. In 2025, new supply in the Tokyo metropolitan area will be lower than in 2024, breaking the increasing vacancy trend.

We expect the value of distribution and warehouse facilities to be broadly unchanged from the previous year in 2025. We take this view because actual rents in the Tokyo metropolitan area have been largely flat and investment demand for distribution and warehouse facilities from domestic and overseas investors remain strong.

Related Criteria

• Rating Methodology And Assumptions For Japanese CMBS, July 26, 2024
• Global Auto ABS Methodology And Assumptions, July 26, 2024
• Global Methodology And Assumptions: Assessing Pools Of Residential Loans--Asia-Pacific Supplement, April 4, 2024
• Global Consumer ABS Methodology And Assumptions, March 31, 2022
• Global Equipment ABS Methodology And Assumptions, May 31, 2019
• Global Methodology And Assumptions: Assessing Pools Of Residential Loans, Jan. 25, 2019
• Global Credit Card ABS Methodology And Assumptions, Oct. 9, 2014

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