Tuesday 29 July 2014 by FIIG Research Legacy

From the Trading Desk (29/07/14)

Yield direction and volatility

Yields rose last week as stocks rose off the back of strong company earnings and domestic inflation data spurred concern that interest rate increases would be bought forward. Australia’s Consumer Price Index (CPI) advanced 0.5% from the previous three months, resulting in 3.0% year on year growth. This gain was higher than economists had forecast for the quarter, affirming the Reserve Bank of Australia’s decision to adopt a neutral stance on interest rates and increasing the likelihood that the bias will shift toward one of higher rates.

Reserve Bank governor Glenn Stevens spoke last week at a charity lunch where he defended the low interest rate policies and said the ‘search for yield’ meant that financial conditions had eased. That was the day before CPI was announced though, and it is likely the next RBA verbiage will include a comment regarding inflation.

The 5 year and 10 year benchmark swap rates closed 2-3 basis points (bps) higher over the week, finishing at 3.23% and 3.79% respectively. The 5 year and 10 year Commonwealth government yields were 5-7bps up for the week at 2.92% and 3.44%.

New direct bond – Emeco Pty Limited

This week the USD fixed rate senior note issued by Emeco Pty Limited was added to the DirectBonds list. This bond is pays a fixed coupon of 9.875% semi-annual and is available to wholesale clients only. It is available in minimum parcel sizes of USD200,000, and has a maturity of March 2019.  Emeco is the world’s largest rental provider of heavy earthmoving mining equipment and has operated in the industry for over 40 years.

The bond is indicatively offered at a yield to maturity of 8.35%, which equates to a margin over USD swap of approximately 6.63%.

Inflation linked bonds in high demand

Following last week’s strong CPI figures, activity has increased in inflation linked bonds, and reluctance by existing owners to let go of their stock continues to push yields lower in these products.

The Sydney Airport capital index bonds (CIB) regained the top spot among our most traded inflation linked securities last week. Supply of the Sydney 2020 issue has been consistent for a number of weeks now, providing an attractive switch target for holders of the 2030 bond looking to shorten their duration. The switch has worked well for parties on both sides of the trade as a lack of institutional supply and falling interest rates has steadily pushed the yield on the 2030’s lower while demand remains strong.

The inflation annuity bond (IAB) space has suffered from a lack of consistent offers in recent weeks with the MPC December 2033s as the only standout. FIIG access to the MPC remains steadfast. The bonds are currently offered at an indicative yield to maturity of 5.50%.

Other credit margins and trading activity

The secondary market among FIIG originated issues was active last week with CBL Apr 2019 fixed rate bond recording $9.5m in turnover. There was decent two-way flow as institutional bid interest coaxed clients into taking profits on their CBL holdings, which has traded to a significant premium since issuing earlier this year.

The Adani Abbot Point Terminal (Adani) May 2020 fixed rate bond again proved popular and it remains our highest yielding investment grade bond on offer. Supply of Adani is still available, with FIIG currently able to execute client purchase orders at an indicative yield of 5.74%.


Market levels are indicative as at 29 July 2014 and subject to change based on demand and market movements.

Yields for floating rate notes are estimated as the sum of the swap rate to maturity / call and the trading margin.

Yields for capital indexed bonds and index annuity bonds are estimated as the real yield plus a 2.50% inflation assumption.

Key terms

Basis points (bps)

The basis point is commonly used for calculating changes in interest rates, equity indices and the yield of a fixed income security. The relationship between percentage changes and basis points can be summarised as follows:

Bank bill swap rate (BBSW)

A compilation and average of market rates supplied by domestic banks in regard to the specific maturities of bank bills. BBSW is calculated at ten o’clock every morning and compiled by AFMA.

The purpose of BBSW is to provide independent and transparent reference rates for the pricing and revaluation of Australian dollar derivatives and securities.

Call date

The date prior to maturity on which a callable bond may be redeemed by the issuer. If the issuer determines there is a benefit to refinancing the issue, the bond may be redeemed on the call date, at par, or at a small premium to par depending on the terms of the call option.


Is a useful measure of risk in bond investment. Developed in 1938 by Fredric Macaulay, duration measures the number of years needed to recover the cost of the bond, taking into account the present value of all coupon payments and the principal payment received in the future. Bonds with higher duration typically carry more risk and thus have higher price volatility. For zero coupon bonds, duration equals the time to maturity, for vanilla fixed rate bonds, duration is always less than time to maturity, for floating rate notes, duration is typically very low and based on the next coupon reset date.