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Interest Rate Commentary

Domestic markets are pricing in almost no chance of a cut to the cash rate tomorrow as the RBA have re-entered the “wait and see” game with the US. With August’s rate cut having almost no impact on the Australian dollar (and rather fuelling property prices), the RBA are now much more cautious of deploying conventional monetary policy and it is difficult to predict what action will be taken this week.

 

US Federal Reserve chairman Yellen spoke at Jackson Hole and the reaction was reasonably muted. Comments from other members varied but the message was that timing of the next move is not that important and the key reason why rates haven’t been lifted to date is low inflation and weak employment. This was followed by weaker than expected US jobs data last Friday and as a result, a September rate hike by the Federal Reserve is likely to be ruled out. US markets are still pricing in a ~50% probability of a rate hike by year end but given the resilient Australian dollar, the RBA may be forced to act sooner than they would like.

 

The domestic yield curve is flat and overall yields across the curve are low compared to long term averages. In November 2015 there was a progressive increase in yield from ~2.60% to a high of 2.99%. But since then the flight to quality meant the 10-year yield gave back the changes in Q4 2015 and more recently the Australian Government 10-Year Bond Yield has continued to drop to record lows (new low of 1.819% as at 2 August 2016). The 3-year bond has followed a similar pattern and broke out of its yield range (1.90 – 2.10%) in November / December 2015 reaching a high of 2.18%. It has since collapsed to reach a low of 1.373% on the 2 August 2016. On the 26th of August 2016 the ASX 30 Day Interbank Cash Rate Futures September 2016 contract was trading at 98.51 indicating a 5% expectation of an interest rate decrease to 1.25% at the next RBA Board (no change from last week).