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Interest Rate Commentary

Last week all eyes were focused on US non-farm payrolls (employment data) which delivered an increase of 38,000 jobs (significantly below already low expectations of 160,000 new jobs) while at the same time figures from the last two months were revised down by ~59,000. As a result a rate hike by the Federal Reserve is arguably now off the agenda in June (interest rate futures suggesting probability of 4% vs 36% last week) and July is down to 27% vs ~50% last week).

 

This in turn had a negative effect on the Australian yield curve with the benchmark 10-year bond yield falling to a record low of 2.16% on Monday. Headline economic growth data released last week was strong (3.1%) but also slightly misleading on the health of the economy. The majority of the growth came from net exports which was in turn a function of increased supply from new mines coming on line (i.e. boost in overseas shipments). The problem for Australia is now a function is national income rather than growth. This drives the budget deficit and a lack of price pressure (i.e. inflation) suggests Australia needs easier monetary policy to combat the same disinflation that’s gripped much of the developed world.

 

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 this time 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 2.16% as at 6 June 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 1.51%. On the 6th June 2016 the ASX 30 Day Interbank Cash Rate Futures June 2016 contract was trading at 98.265 indicating a 8% expectation of an interest rate decrease to 1.50% at the next RBA Board meeting (down from 13% last week).