NZ rate curve steepening, with declines in swap rates at the shorter end

By Kymberly Martin

As anticipated, yesterday’s low-side CPI reading caused the market to increase expectations of RBNZ rate cuts.

Swap yields closed down 3-7bps, with a notable steepening to the curve. As short-end yields fell abruptly offshore names were most notably in doing the receiving.

The market now prices 35bps of RBNZ rate cuts in the year ahead and assigns a 20% chance of a cut next week. We see a cut next week as very unlikely. Rather, we expect next week’s RBNZ meeting to be a fairly low-key affair under the new Governorship of Graeme Wheeler.

As outlined in our strategy note yesterday, “To Cut or Not to Cut, That is the Question”, the CPI data does nudge higher the chances of a rate cut in the year ahead. Still, we would put the probability of a 25bps cut at 40% not the 140% priced by the market.

We therefore see 2 and 5-year swap yields as now being close to bottom of ranges, as opposed to breaking below the range altogether. For those with hedging requirements, current levels may therefore provide opportunities.

We also continue to expect NZ curve steepening. Yesterday the 2s-10s curve steepened 5bps to 104bps.

We see NZ long-end yields supported by stable/rising US long yields, and by potential corporate/local authority paying interest moving out along the curve. Still, positioning for steepening is also a good hedge against the possibility of the market pricing in further OCR cuts. This would likely be reflected more at the short-end of the curve, as it was yesterday.

Overnight, risk appetite was buoyant. Sentiment was helped by a continuing solid US earnings reporting season. With around 10% of the S&P500 companies now reported, earnings growth is recorded at 13%. ’Safe haven’ US 10-year bonds came under selling pressure. Yields rose from 1.66% to 1.72%. This move should help underpin the long-end of the NZ curve today, in the absence of local data releases.