Australian bond investors can thank European Central Bank President Mario Draghi for world-beating returns over the past month.
The nation’s notes due in 10 years and more have gained 3.7 percent since June 13, the most among 144 indexes tracked by Bloomberg and the European Federation of Financial Analysts Societies. The correlations between long-maturity Australian securities and similar-dated debt issued by Italy and Spain climbed to the highest since 2011 last week, while the link to German bunds has been stronger than that to U.S. Treasuries since mid-June.
Australia’s 10-year yield fell to its lowest in a year on July 11 at 3.41 percent after an increase in the unemployment rate prompted traders to boost wagers the Reserve Bank will cut its record-low cash rate within 12 months. The nation still has the highest benchmark yield in AAA rated markets and the ECB’s extraordinary stimulus measures since early June helped push the similar yield in lesser-rated Spain and Italy to as low as 2.54 percent and 2.69 percent.
“Yields have gotten to levels where they are sub Australia’s, and it has made Australia really stand out,” Peter Jolly, head of research at National Australia Bank Ltd. in Sydney, said by phone on July 9. “It flags Australia’s value to investors globally.” The bank is the largest in the nation as measured by assets.
Japanese investors are among those increasingly drawn to Australia, buying 129.2 billion yen ($1.27 billion) of sovereign bonds in May, a fifth-straight month of net purchases, official data showed last week. They cut their holdings of German debt by 1.05 trillion yen.
Australian securities are benefiting as Germany’s notes become costlier, said Roger Bridges, head of fixed-income strategy in Sydney at Tyndall Investment Management Ltd., which oversees the equivalent of $21.6 billion.
Both nations are seen as havens among investors because they have the top-level AAA debt ranking from Standard & Poor’s, Moody’s Investors Service and Fitch. Germany 10-year yields fell to 1.17 percent July 10, the lowest since May 2013. One-year yields were near zero after becoming negative on July 4, versus 2.47 percent for Australia.
“People are saying, hey, bunds are this expensive,” Bridges said. “We may look at the Australian market. Our rates are basically moving with the bund rates rather than with the U.S. rates. The currency keeps on going up as a result.”
Investors were reminded of the risks of holding the debt of Europe’s most indebted nations when Portuguese yields jumped 21 basis points on July 10 as missed debt payments by a parent company of one of the nation’s banks raised concern the region’s economy remains vulnerable to shocks.
The outperformance of the Australian 10-year bond began in April as the spread between yields on 10-year Spanish notes and comparable U.S. Treasuries declined below 50 basis points, Deutsche Bank AG said in a July 9 report.
Australian debt’s correlation to bunds is 0.88, while the link to Treasuries is 0.86. The measure climbed to 0.6 for Italian debt after being negative as recently as May, and rose to 0.57 for Spanish securities. A figure of 1 shows they move in lock step.
Australia’s three-year yield dropped last week as data showed the jobless rate unexpectedly matched an 11-year high of 6 percent last month. Traders are betting the RBA’s benchmark will be 12 basis points lower over a year, according to a Credit Suisse Group AG index.
RBA Governor Glenn Stevens said on July 3 that while there are encouraging signs the economy is being weaned off a dependence on mining investment-led growth, there’s still some way to go.
He also said investors are underestimating the probability of a “significant fall” in the Australian dollar at some point.
The Aussie traded at 93.99 U.S. cents as of 1:15 p.m. in Sydney, up 5.4 percent this year for the steepest advance after the New Zealand kiwi among 10 currencies that Bloomberg tracks against the dollar.
“We have an RBA that’s been talking no change to the cash rate but is busy jawboning the currency at any opportunity,” Anthony Kirkham, the Melbourne-based head of investment management at Western Asset Management Co., which oversees the equivalent of $16.9 billion, said on July 10. “For foreign investors this is sending the message of further cash-rate cuts and taking bond yields lower.”
The three-year yield fell below the 2.5 percent RBA rate for the first time since August last week before rising to 2.53 percent today. It’s among the most sensitive to what the central bank does with its target for overnight lending because of its short maturity.
European bonds have been supported since the Frankfurt-based ECB cut its benchmark rate to a record-low 0.15 percent in June, took its deposit rate below zero and unveiled targeted loans to help revive lending. Draghi estimated July 3 that banks could take up as much as 1 trillion euros ($1.36 trillion) in its longer-term refinancing operations.
“What’s happening in Europe is supportive of a rally” for bonds globally, said David Plank, the Sydney-based head of research at Deutsche Bank AG. “Part of the reason that we’ve probably rallied so hard in the last couple of months is that European spreads have continued to narrow, so Aussie bonds have looked increasingly attractive.”
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