China Mess Seen as No Bar to Back-to-Back Slump for Aussie Bonds

  • January bond rally has seen 10-year yield fall 21 basis points
  • Median estimate is for benchmark yield at 3.2% by year-end

Australian sovereign bonds forecasters are predicting back-to-back annual price declines for benchmark debt for the first time since 2007, undaunted by turmoil in Chinese markets that’s driven a rally so far this year.

While a flight to safety has cut the 10-year yield by 21 basis points since Dec. 31, the median forecast in a Bloomberg survey of analysts is for it to climb to 3.2 percent by the end of 2016, after finishing last year at 2.88 percent. The yield was at 2.67 percent as of 12:10 p.m. on Thursday in Sydney.

“There are some stress points in the global economy with China and energy and resource producers for instance, but the general story is still one of modest and broad-based growth,” said Peter Jolly, the head of market research at National Australia Bank Ltd. in Sydney. “This is largely a view on global rates, with 2016 being a year of moderately higher bond yields, though current market volatility is challenging our forecasts right now.”

The bond market predictions are underpinned by expectations that Australian economic growth will accelerate to 2.6 percent this year from 2.3 percent in 2015, and the prospect of additional U.S. Federal Reserve rate increases. Strategists are undeterred by the plunge in oil prices and the global slump in equities, even after overestimating in recent years how far yields might rise.

Previous Predictions

Analysts predicted in April last year that 10-year yields would end 2016 at 3.48 percent before cutting that forecast to 3.05 percent by October and then raising it again in the following months.

While the Australian 10-year yield climbed by 14 basis points in 2015 on the back of the first Fed rate increase in almost a decade, it fell short of earlier analyst expectations for where it would end, based on previous surveys. The 10-year yield’s 150-basis-point decline in 2014 was even more confounding for forecasters, with the median prediction in a December 2013 Bloomberg survey being for an increase to 4.53 percent.

NAB’s Jolly, who sees the 10-year yield ending 2016 at 3.35 percent, says there may also be “modest upward pressure” if the Reserve Bank of Australia disappoints market expectations of an additional rate cut. While policy makers have signaled their reluctance to take the cash rate below an already record 2 percent, the swaps market on Thursday indicated about 65 percent probability of at least one reduction by the middle of the year.

In addition to China’s slowdown and the global stock slump, the disinflationary impact of the oil slump has also had an impact on bond yields, according to Katrina King, director of research and strategy at QIC Ltd. in Brisbane. While in the short term there may be further downward pressure on yields, her longer-term view is that they will increase.

“Yields have gone higher, probably not to the extent that people may have thought, but we had the Fed liftoff in December last year and they have initiated a hiking cycle and we expect that that recovery in the U.S. will continue to, although very moderately, raise rates globally,” she said. “The term premium and the correlation of the Australian 10-year with that is usually quite high and that will rise as well.”

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