Aussie Yield Spread Seen Sinking to 2001 Low
The yield advantage on Australian sovereign bonds may crash to the least since 2001 as the central bank shows it’s willing to cut record-low interest rates even further, the nation’s largest lender said.
The extra yield benchmark Australian notes offer over U.S. counterparts will shrink to 80 basis points by 2015 and may drop to as little as 50, Commonwealth Bank of Australia (CBA) forecasts. The gap will narrow to 87 basis points by September 2014, according to Bloomberg News surveys of economists, after touching 107 yesterday, the least since November 2008.
The Reserve Bank said this week it retains scope to cut rates as the economy is dragged down by the end of a record mining investment boom and manufacturing struggles to fill the gap. Lower borrowing costs would further reduce sovereign yields and weaken the Aussie dollar just as the U.S. Federal Reserve signals it may reduce monetary stimulus this year.
“We are going to have a slowdown in Australia, and if things go badly, it could turn into a recession,” said Philip Brown, a fixed-income strategist at Sydney-based CBA. If the run of poor data continues in Australia against the backdrop of a resurgent U.S., a spread of 50 basis points is plausible, according to CBA.
The 10-year rate was 3.63 percent at 1:21 p.m. in Sydney, compared with 2.35 percent for similar-dated Treasuries. Australian sovereign debt returned 1.2 percent from the end of March to June 18, while U.S. bonds handed investors a 1 percent loss, Bank of America Merrill Lynch indexes show.
The gap to Treasuries reached 51 basis points on March 28, 2006, the least since May 2001, before soaring to a decade-high of 277 in February 2008.
“The inflation outlook as currently assessed might provide some scope for further easing, should that be required to support demand,” the RBA said this week in minutes from its June 4 meeting, when it left its benchmark at 2.75 percent.
The central bank repeated that resource investment was near its peak and would remain high for the next year or so. There was “considerable uncertainty” beyond that, it said.
Manufacturing has failed to signal it can pick up the slack. It contracted for a 15th month in May, after dropping to a four-year low the month before, according to purchasing managers surveys by Australian Industry Group.
“It’s the transition phase in the Australian economy that’s concerning the market,” said Steven Mansell, the Sydney-based head of Group of 10 rates strategy for the Asia-Pacific region at Citigroup Inc. “The market will hold on to expectations of lower policy rates, whereas the only way is up in the U.S.”
Swaps markets are pricing in 28 basis points, or 0.28 percentage point, of RBA cuts over the coming year, while they see the equivalent of 16 basis points of tightening at the Fed, according to Credit Suisse Group AG indexes.
U.S. economic growth has trailed Australia’s since 2006. It will recover to match the South Pacific nation by 2015, with both nations’ output increasing 3 percent that year, according to the median forecast of economists polled by Bloomberg. Strategists raised their forecasts for the possibility of an Australian recession in the next 12 months to 10 percent this month, from 5 percent in May.
The Fed may start dialing down its unprecedented bond-buying program this year and end it entirely in mid-2014 if the economy finally achieves the sustainable growth policy makers have sought since the recession ended in 2009, Chairman Ben S. Bernanke said yesterday.
The U.S. central bank left the monthly pace of bond purchases unchanged at $85 billion, while saying that “downside risks to the outlook for the economy and the labor market” have diminished.
“With all the liquidity awash in the world, and an uncertain world with no growth, what you do is search for yield, and Australia’s triple-A bond market was one of the primary beneficiaries,” said Sam Tuck, a senior foreign-exchange manager at ANZ Bank New Zealand Ltd. in Auckland. “Now that can start to unwind.”
The prospect of a narrowing yield gap and slowing economic growth has made Australia’s dollar the worst performer over the past three months among 10 developed-market currencies tracked by Bloomberg Correlation-Weighted Indexes. It has fallen 11 percent, while the U.S. dollar advanced 0.6 percent.
Futures traders extended record bets that the Aussie will fall against the greenback, figures from the Washington-based Commodity Futures Trading Commission from last week showed. Traders swung to a record 63,277 net positions betting on Aussie declines on June 11, from net longs of 83,971 on April 2.
“There’s been a shift in relative fortunes,” said Janu Chan, a Sydney-based economist at St. George Bank Ltd. “There’s a realization that the gap between Australia and the U.S. is shrinking.”
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