Last week, we saw some investors taking profit on longer term currency plays and other investors buying ahead of anticipated AUD weakness
Economic Wrap
Australia had a relatively quiet week, with the unemployment rate falling to 6.2% in August from 6.3% in July. This was largely attributed to the addition of 17,400 jobs throughout August, roughly 11,500 of which were full time. Aiding the fall in the unemployment rate, however, was a drop in the participation rate by 0.1% to 65.0%.
Ben Jarman, an economist at JP Morgan, stated that the unemployment rate: “is consistent with GDP growth being enough to stabilise the market”, and that he thought “that message will be important for the RBA in the near term, because … if unemployment is relatively steady, they will stay on the sidelines”. Further, of 27 economists surveyed by Bloomberg, 26 expect the RBA cash rate to remain at 2% for the remainder of the year, while futures markets are pricing in a 65% chance of a rate cut before the end of the year.
International central banks had an eventful week, which began with the Reserve Bank of Canada holding its domestic cash rate at 0.5% on Wednesday. The rate hold was largely attributed to the continued low price of oil and other resources, which resulted in a mildly negative impact for Canada’s domestic rate of inflation.
New Zealand was next, with the Reserve Bank of New Zealand (RBNZ) announcing its third rate cut for the year, dropping interest rates by 0.25% to 2.75%. That rate cut triggered a 2% devaluation in the New Zealand dollar against the AUD and USD. The RBNZ Governor, Graeme Wheeler, stated that “domestically, the economy is adjusting to the sharp decline in export prices, and the consequent fall in the exchange rate” and that growth was expected to be 2% on the year, as opposed to 2.5% when the bank last cut rates.
Finally, the Bank of England also decided to hold domestic interest rates at its record low of 0.5% on Friday. The Bank of England’s minutes demonstrated that despite developments in China having “the potential to add to the global headwinds to UK growth and inflation”, it still intends to raise rates relatively soon.
This week, all eyes are firmly on US FOMC’s meeting and a potential rate hike. Economists are divided on whether we will see a rate move, whereas futures markets are implying only a 28% chance of a rate hike. While the debate has been over whether US domestic economic conditions warrant a rate hike, there has been increasing concern over the destablising impact that a rate hike could have on global markets. IMF Managing Director, Christine Lagarde, last week expressed her view that the Fed should not risk potentially moving too early and that data should be indisputably supportive before making that first increase.
Yields drifted higher over the week, with our 3 & 10 year Australian Government bond yields up by 11 & 10 basis points to 1.88% & 2.73% respectively. Credit spreads were relatively unchanged over the week with the the ITraxx index down less than one basis point to 113.25. The Australian dollar started the week at 69.19 US cents and quickly made its way back over 70 US cents to finish the week worth 70.92 US cents.
Flows
Trading in non-AUD denominated bonds was again prominent last week, with investors taking profit on longer term currency plays and others seeing the Australian dollar over 70 US cents as an entry point ahead of further Australian dollar weakness. While most foreign currency trading is in US dollars, British pound trading has picked up as investors look for further diversity away from the Australian dollar, given concerns over China and its potential impact on our domestic currency.
In Australian dollar denominated trading, the Sun Group 2024 floating rate note continued to get attention as we currently have good supply in this line. Out of the new Apple bonds added to our DirectBonds list, the 7 year fixed rate note is attracting the most interest, while the short dated 4 year fixed and floating lines do not appear to carry the yield to pique interest at the moment. We also currently have a good institutional offer in the Sydney Airport 2020 inflation linked bonds and very good supply in existing FIIG originated transactions. We had some investors reducing exposure in existing FIIG deals to participate in last week’s new transaction for PMP. This has resulted in better supply in more seasoned FIIG-led deals, suiting those more opportunistic buyers in the high-yield space.