Summary:
Directionally, Australian bond yields are totally being set by the direction of the US bond market.And that means over the course of the week the 10-year yield increased from 4.29% to 4.43%.No doubt there will be a sell off on Monday based on the soft US retail sales data and bond market reaction. Spreads remain exceptionally tight (more on that).
The notable development in Australia came on the back of the hotter than expected Wednesday US CPI print was the drop on a expectations on a 25 basis point cut form the RBA this Tuesday. The US CPI print led, or accelerated, a reset on US interest rate policy thinking. All of a sudden, conversations are being had about the conceivability of the Fed hiking. Whatever the case, the market is now pricing in one rate cut now until December this year. The Fed lacking strategic direction on rates? Look out the RBA. And needs to be considered significantly.
As per the market, interest rates expectations regarding Tuesday declined from 95% to 90% on a 25 basis points cut. Too much, we say. Economists are saying 75%. We say 50/50. Biggest rate decision of the year. If you are not viewing the US CPI print and market reactions as a shot across the RBA bow, then you are not watching. We acknowledge that the interest rate transmission dynamic is different in Australia (no one is on low rate 30-year mortgages in Australia), but the US CPI print would rightly have sent a chilling message to the RBA. Tuesdays’ decision will be the biggest decision it makes this year, financially and, of course, politically.
Demand for corporate bonds is and remains gangbusters. Record levels in fact in terms of oversubscription. Happy days if you are invested – spreads are at record lows – but by definition this implies risk. However, nothing to add here – we can’t see a probable catalyst to reverse that. All that said, US and AU bond market volatility has meaningfully exceeded equities from CY25. And the risks are to the downside – upper limit on US 10 year – 5.0-5.25% – and regarding spreads, well you could not park an MM into that space.
Fixed income is a coupon play currently. And its attractive. Lock it and forget the noise.
Source: S&P Global
Another measure, the cost of credit default swap premiums, declined over the week. The Australian credit default swap index, the iTraxx Australia Series 42, decreased by 5.00 points to 67.00 points.
