July 2017 interest rate commentary

02 August 2017

Click here for monthly tables & chartsCASH

There were several changes to our list of cash account rates this month. Commonwealth Bank’s NetBank Saver account and CUA’s eSaver Plus account both got trimmed by 5bps. Heritage Bank’s Online Saver account was reduced by 10bps and ING’s Savings Accelerator account was cut by 15bps.

July is a busy month for economic reports as it has “tier 1” official quarterly reports such as unemployment and consumer inflation figures on top of the standard monthly reports.

May dwelling approvals were weaker than expected, led lower by a fall in planned high rise apartments. The Melbourne Institute’s Inflation Gauge suggested June quarter CPI should remain somewhere near 2% while ANZ’s job advertisement reports bodes well for further gains in employment. May retail sales were significantly higher than expected but high household debt levels and low wages growth rates are expected to put the brakes on any ideas of a consumer-led growth surge.

Close Month
Cash Rate%   1.50
90d Bank Bill%   1.69    -0.02      1.71      1.69
Aust 3y Bond%*   1.95   -0.03     2.14      1.92
Aust 10y Bond%*   2.68    0.03      2.79      2.61
Aust 20y  Bond%*   3.24    0.03      3.33      3.17
US 2y Bond%   1.35   -0.03      1.41      1.34
US 10y Bond%   2.30     0.00      2.38      2.24
US 30y Bond%   2.90     0.07      2.93      2.81
iTraxx   77.0     -7.1     85.2     75.7
$1AUD/US¢ 80.03     3.16   80.66    75.71
* Implied yields from Sep 2017 futures

At its July meeting, the RBA Board kept the official cash rate at 1.50% and some observers were disappointed it did not add to the chorus of central banks official which talked about tighter (or more accurately, “less easy”) monetary policy. May trade figures indicated exports had rebounded while May dwelling finance approvals broadly met expectations with owner occupiers are taking up the slack left by investors.

NAB’s business survey indicated the business sector has been experiencing buoyant conditions, which some say is at the cost of household/consumer sentiment which is on the wrong side of neutral, which perhaps an explanation for why consumer inflation expectations also fell. In a potentially ominous move, the Westpac-Melbourne Institute Leading index dropped below zero but for now, the economy has held up June Labour Force figures indicated employment had grown for the ninth month in a row.

Inadvertently or otherwise, the RBA became the focus of the market’s attention after the release of the July minutes and its discussion of the “neutral rate”. The RBA then went out of its way to say this was not what they had intended. However, it got market participants thinking about the 200bps gap between the current cash rate and the RBA’s neutral rate estimate despite further attempts such as RBA chief Philip Lowe’s speech on the same day as the release of Q2 CPI figures.

Accordingly, cash markets backed off and the month in which a rate rise is fully factored in has been pushed back to November 2018. 2017 contracts were largely unchanged and the current expectation is for the cash rate to remain unchanged at 1.50% in 2017. There is some chance given to rate rises earlier in 2018; February contracts imply an 18% chance, May is still a 50% chance but August 2018 has dropped to from an 84% chance to 74%.

TERM DEPOSITS        Click here for monthly tables & charts

ANZ decided to amend several of its term deposit rates this week. 1, 3 and 4 year rates were reduced by 10bps and 2 year rates fell by 20bps. However, it also raised the rate on 9 month terms by 20bps.

Greater Bank made the most noticeable changes of all the ADIs during June. Its 3 month rate was cut by 30bps, its 6 month rate was slashed by 50bps, while rates from 2 years to 5 years were cut by more modest amounts between 20bps and 30bps. At the same time, Greater’s increased its 1 year rate by 10bps, its 4 month rate by 20bps, its 5 month rate leapt 55bps and its 9 month rate jumped 45bps.

AMP varied several of its rates with little net change by the end of the month with the exception of its 5 month rate which jumped 60bps. Bank Australia increased its 6 month rate by 30bps while BoQ and BoQ Specialist both increased their 4 month rates by 20bps but, in addition, BoQ Specialist increased its 3 month rate by 20bps and its 6 month rate by 10bps.

People’s Choice raised its 5 month rate by 35bps, cut its 6 month rate 20bps and increased its 9 month rate by 20bps. P&N Bank took a razor to its longer-dated term deposits; 1 year rates were reduced by 10bps, 2 year rates were cut by 30bps and 3, 4 and 5 year terms were reduced by 20bps. Rabobank trimmed a selection of its rates by between 5bps and 15bps

The 3 year rates offered by Newcastle Permanent is the highest on offer in the survey at the end of June.

Click here for monthly tables & chartsBANK BILLS/SWAPS

Bank bill rates trended down quite consistently through the month. By the end of June both physical bank bill rates and 3 month BBSW rates were 3bps lower at 1.71%.

Swap rates had been falling since March but in the early part of June they began rising gradually, with an extra kick towards the end of the month. The 1 year swap rate rose 10bps to 1.78%, the 3 year rate was 26bps higher at 2.09% and the 5 year rose 29bps to 2.49%. Longer swap rates, although significantly higher than at the end of May, increased by less than shorter-dated ones; 10 year rates added 23bps to 2.90% and the 15 year rate rose 22bps to 3.13%.

Swap rates kept pace with ACGB yields to some extent, although swap rates at the front of the curve reacted slightly less than their ACGB counterparts while longer-dated swap rates reacted a little more. The 3 year swap spread tightened by 1bp from 20bps to 19bps, while both the 5 year and 10 year spreads widened by 2bps to 31bps and 30bps respectively.

Click here for monthly tables & chartsGOVERNMENT YIELD CURVE

Yields rose across the curve but those towards the short end tended to rise more. The 3 year/10 year spread dropped for a second month in a row from 76bps to 67bps while the 3 year/20 year spread also fell to finish 12bps tighter at 122bps.

NB. Bond yields have been implied from September futures.

Click here for monthly tables & chartsGOVERNMENT BONDS

Bond yields generally stagnated in the first half of the month. The ECB held its official rate steady and markets were subdued in the lead-up to the FOMC meeting. Mario Draghi said the Eurozone’s economy had improved but current monetary policy settings and programmes were still required. Then it was the U.S. Fed’s turn and just before it announced the well-flagged rate increase, May U.S. CPI and retail sales figures sent yields diving. Janet Yellen then said a few soothing words about the short-term nature of recent inflation readings and yields partially rebounded.

Around the middle of the month movement at the short end of the Australian yield curve was largely influenced by the strong local employment data. Bond and currency markets were not really prepared and so yields rose at the short end as the probability of tighter future monetary policy was given more weight.

Up until a few days short of the end of the month, apart from the odd day or two, yields moved less than ±3bps on any given day. However, then the real action occurred. A speech by Mario Draghi at a Portuguese gathering of central bankers and academics sent yields higher around the world. Comments by the BoE’s Mark Carney and the BoC’s Stephen Poloz added to the fire. Carney said, “Some removal of monetary stimulus is likely to become necessary…” while Poloz said, “It does look as though those cuts have done their job.”  Central banks around the world appeared to be warming markets up to the idea of higher rates in various jurisdictions in the short-term.

The net effect over the month, bond yields were higher in most markets with the exception of Italy where 10 year yields fell 3bps to 2.15%. In the U.S., the yield on 2 year bonds rose 10bps to 1.38% while 10 year bond yields increased by 9bps to 2.30%. The U.S-Australia spread widened by 12bps to 35bps as the local 10 year yield ran up quite a bit more than its U.S. counterpart. The Australian 10 year yield (implied by September futures) jumped by 21bps to 2.65%. It appears as if markets are not keen on a negative Australian-U.S. 10 year spread, at least for now. The 3 year yield was 30bps higher at 1.98%, the result of the strong local labour force numbers (see above) in combination with a surge in global yields in the last days of the month. Ultra-long bonds were less sensitive and the 20 year yield rose by 14bps to 3.21%.

NB. Australian bond yields in May were implied from June futures contracts.

In other major markets, the biggest increases were in Germany and the U.K., with most of the rises in the last three days of June. German 10 year yields rose 16bps to 0.46% while British yields jumped by 21bps to 1.25%. Yields rose less in other countries; French yields increased by 9bps to 0.82% and Italian yields even managed to find a way to fall. Japanese yields are anchored around zero by BoJ policy but they are now the highest they have been since mid-March.

Click here for monthly tables & chartsSEMI GOVERNMENT BONDS

Semi-government spreads were about 2bps lower on average, driven predominantly by a preference for some 2017 QTC bonds whose spreads moved into negative territory.

ANZ’s statement about its sale of SAFA lines may have had some effect, although causality is difficult to prove. SAFA spreads were initially slightly higher for bonds with maturities longer than 3 years and the change was as large as 5bps on the July 2026 line in that particular week. By the end of the month SAFA spreads were 1-3bps higher with the July 2026s 8bps higher.

In the primary market there was just the one transaction. SAFA sold $750 million September 2027s at ACGB + 58bps via a syndicated placement. This line was first issued in March 2017.

The only other news was in the form of 2017/2018 funding requirements published by Queensland Treasury Corporation and Tascorp. QTC also bought back a few of its June 2019 line which is Commonwealth Government guaranteed.

Click here for monthly tables & chartsCORPORATE BONDS

Corporate bond spreads were about 4bps tighter on average as corporate bonds across issuers and maturities outpaced their ACGB counterparts. This was consistent with rates in the swaps market. In contrast, the general cost of insuring against bond default rose. Other measures of corporate risk such as the iTraxx Australia Series 27 index was also lower at 77.0, down from June’s 83.6.

In the primary markets, local issuance was roughly equivalent in value to the $13 billion of bonds issued in June. $13 billion worth of bonds were issued and once again NAB transactions stood out. In the last week of June NAB issued $2.40 billion worth of August 2020 bonds via a $2.15 billion floating rate tranche at BBSW + 62bps and a $250 million fixed rate tranche at Swap + 62bps.

Commonwealth Bank’s bond issues were also on the large side. Early in the month is issued USD$1.5 billion (AUD$1.975 billion) 30 year bonds at Treasury + 103bps and then around the middle of the month, it raised $1.875 billion via three tranches of fixed-rate and floating-rate bonds, the largest being $1.65 billion July 2022 FRNs at BBSW + 88bps.

RMBS and ABS issuance settled back from June’s level of activity and around $3.0 billion worth of securities was issued compared with June’s $4.8 billion. Liberty Financial’s 2017-3 $1.15 billion issue was the largest, followed by Resimac Premier’s 2017-2 $750 million issue and Barton’s 2017-1 $500 million transactions.

The $3.6 billion worth of transactions in the Kangaroo market during June was around double of that issued in June. Most bonds came from regular issuers but the largest transaction, worth $800 million, came from Spanish bank Banco Santander. Santander went around the globe raising funds after it bought failed Banco Popular in June and part of its fund raising brought it to Australia. Another interesting transaction in the segment of the bond market was Banca IMI’s $400 million issue of July 2021s as it is one of the few issuers in the Kangaroo market to have a credit rating lower than A-/A1.

In rating news, Moody’s upgraded Incitec Pivot’s rating from Baa3 to Baa2 (stable outlook) and Singtel’s Australian subsidiary Optus Finance was downgraded to A2 from A1 (outlook stable). Fitch changed the outlook of QBE Insurance Group from stable to positive after its A- rating was affirmed and the outlook of Australian Gas Networks (formerly Envestra) was revised to positive from stable by S&P. Its BBB+ rating was affirmed.

Click here for monthly tables & chartsASX-LISTED FLOATING RATE NOTES AND BONDS

Trading margins in this sector were considerably higher on average and the median trading margin jumped from 1.28% at the end of June to 1.84% at the end of June or back to where it was at the end of May. It was driven Caltex Notes (ASX code: CTXHA) and Westpac Notes (ASX code; WBCHA) were typically those which are not far from their call/maturity dates. However, Bentham IMF Bonds (ASX code: IMFHA) gave back a chunk of the June’s fall and so maybe it popularity in June 2019 was just an price anomaly.

Westpac will redeem its ASX-listed subordinated notes (ASX code: WBCHA) on its first call date which is 23 August 2018. Holders will receive $100.00 face value and $1.1305 in interest. The last day of trading on the ASX will be 11 August 2017.

Click here for monthly tables & chartsASX-LISTED HYBRIDS

Trading margins in this sector were unchanged on average at 3.23% at the end of July. While certain issuers seemed favoured (Bendigo, NAB), most movements in securities’ trading margins appears to be without any particular pattern. One thing to note is the general tightening of spreads between major bank issuers and other issuers. Note: ANZ CPS 3 (ASX code: ANZPC) and Westpac CPS (ASX code: WBCPC) are not shown in the diagram below.