Trend-Bucking Manager Sees Yield Matching U.S.: Australia CreditWes Goodman
Hideo Shimomura, Mitsubishi UFJ Asset Management Co.’s chief fund investor who predicted 2014’s rally in Australian bonds, sees further gains pushing yields down to match Treasuries over the next year or two.
Shimomura says the rally in Australian securities is about to pick up as a sluggish economy increases the odds the Reserve Bank will reduce interest rates. Australia’s 10-year bond yield has dropped 87 basis points since Dec. 31 to 3.37 percent, poised for the biggest annual decline since 2011. The gap to the U.S. narrowed to a seven-year low of 89 basis points last week and was last below zero in 2000.
Mitsubishi UFJ Asset joins economists at Goldman Sachs Group Inc. in predicting a lower benchmark at a time when the consensus estimate is for no change this year. Shimomura bucked the trend late last year as well, when he was bullish on Australian bonds at a time when the median forecast called for prices to drop over the coming year.
“Government bonds will outperform” sovereign debt in other nations, Shimomura said. “Growth isn’t keeping up. Incomes are decreasing. It’s a deflationary situation. They may have to cut rates.”
Yields will fall to 3 percent by the end of October, Shimomura said in a telephone interview July 17, reducing his forecast from 3.25 percent. The views are his own, rather than those of his company, he said.
The bond market is starting to agree. Benchmark 10-year yields were as low as 3.32 percent last week, about 60 basis points away from the record low of 2.698 percent set in 2012.
Australia’s sovereign bonds have returned 5.8 percent this year, versus 3.5 percent for the U.S., according to Bloomberg indexes.
Unemployment at 6 percent in June for Australia matched the highest level in a decade while in the U.S. it declined to the lowest in almost six years.
Wage costs in the smaller economy are rising at the slowest pace on record, keeping inflation expectations in check. The difference between yields on Australia’s inflation-linked bond due in 2022 and similar-dated sovereign securities, a gauge of traders’ estimates for consumer prices over the life of the debt, narrowed to 241 percentage points yesterday, the least since September.
The central bank targets inflation of 2 percent to 3 percent on average.
Goldman Sachs predicts Reserve Bank Governor Glenn Stevens will cut the benchmark interest rate to 2.25 percent from the current record low of 2.5 percent at the bank’s September meeting, based on a Bloomberg survey of economists published last week.
Goldman and research firm 4Cast Ltd. are the only ones predicting cuts this year in a survey of 32 organizations. The median projection is for policy to remain unchanged until the second quarter of 2015, when the central bank’s benchmark is estimated to rise to 2.75 percent.
Market participants are coming around to the idea of further easing from the central bank. Traders are betting the RBA will trim its benchmark rate by 12 basis points over the next year, after forecasting 22 basis points of increases as recently as April, a Credit Suisse Group AG index based on swaps shows.
The shift in expectations helped push the Australian dollar down 0.6 percent this month. The Aussie traded at 93.77 U.S. cents as of 12:35 p.m. in Sydney.
Bill Bovingdon, the chief investment officer at Altius Asset Management Pty in Sydney, said he sold all his Australian bonds this month because they’ve become too expensive.
The danger is that benchmark U.S. Treasury yields rise as the Federal Reserve prepares to raise interest rates, pushing Australian yields higher, he said. The correlation between long-maturity Australian securities and similar-dated U.S. debt was 0.865 yesterday. A figure of 1 means the two move in lock step.
“We see U.S. Treasuries going back toward 3 percent and therefore Australian bonds back toward 4 percent at least by year end,” Bovingdon said by phone yesterday. The U.S. benchmark was 2.47 percent.
Forecasts compiled by Bloomberg show Australia’s 10-year yield will climb to 4.16 percent by Dec. 31, with the most recent projections given the heaviest weightings. The differential to the U.S. is projected to be 111 basis points at the end of this year and 118 at the end of 2015.
Mitsubishi UFJ’s Shimomura said in September he expected yields to fall, and he followed up by buying in October. His view contrasted with Bloomberg surveys in November and December that showed analysts calling for Australia’s 10-year bond yield to rise to about 4.50 percent by the end of this year. By April, he was calling Australia his favorite bond market.
“Yields are dropping dramatically,” Shimomura said.