Even as the peanut gallery debates whether or not the dollar is the reserve currency of choice for the world, China continues to diversify away from the USD. After last week's news that Beijing had not had enough of Portuguese bonds, in a repeat of the same scenario from January 2011, and was preparing to bid up Eurozone bonds across the curve (aka double down) we now learn that China, or rather third-party London-domiciled banks doing its bidding, is now the actor behind "massive Japanese bond buying" seen over the past month. Per Reuters: "Foreign investors have flocked to Japanese government bonds in the past five weeks, finance ministry data shows and market sources say China was among the main buyers, although a large part of buying was made through banks in London." That said, even Reuters appears unable to get its story straight: "Foreigners bought a net 4.696 trillion yen ($57.7 billion) of Japanese bonds in the five weeks to May 20, a record amount of purchases for any five consecutive weeks since data began to be compiled in its current form in 2005. One source said China appears to be buying the four to five-year sector after having sold a large amount of short-term bills earlier in the month. But other sources said foreign investors, including China, were buying long-dated bonds with less than one year left to maturity, effectively the same as buying short-term bills." Wherever in the curve China is focusing, the fact that it continues to actively buy JGBs after 5 consecutive months of declines in its UST purchases is sending a very clear political message to the US. One that certainly got some airplay when the Treasury once again declined to brand China an FX manipulator, despite rhetoric out of very brave Geithner at the first possible opportunity this week, that China is precisely that.

One likely trigger for the shift to the short-term yen market is the fall in yields for dollar government bills since April.

The foreign binge on Japanese government bonds started in the week of April 18-22, shortly after a squeeze in U.S. bills pushed U.S. bill yields lower.

A new deposit insurance rule sparked a torrent of buying in government bills, pushing the U.S. three-month T-bill yield as low as 0.01 percent in early May and below Japanese government bill yields.

The yield spread between the two countries widened to around 0.09 percentage point in early May although it has since come back to around 0.05 percent.

Then came a sharp fall in the euro, which may have also prompted investors to move funds to the yen.

"As the euro started to suffer from debt problems again, some reserve managers could have shifted some of their euro-denominated to assets to the yen," said Makoto Noji, senior strategist at SMBC Nikko Securities.

This was similar to last year when China's foray in the short-term yen market coincided with worries about Greece's ability to pay back debt.

But China quickly moved out of that position, selling a large amount of yen bills in August to take profits after the yen rose. Market players said at that the time China was unlikely to keep a large amount of funds in the yen because yields were low.

Slowly China is realizing the joy of an interlinked fiat world: at best it can rotate out of one insolvent regime into another. The bottom line is that all regimes are insolvent. So the only question is whether or rather when, just like back in April 2009 China dropped the bomb that over the past 6 years it had accumulated secretly 454 tons of gold, will China announce that while it has been rotating in and out of paper, the ultimate source of its $3 trillion in USD reserves will be non-dilutable commodities which handily double up as currencies.