Caution surrounding the impact of drought is offset against concerns for price pressures in areas such as housing

By Kymberly Martin

Yields rose up to 6bps on NZ swap and bond curves yesterday, with notable curve steepening.

The short-end (2-year) swap continues to attract receiving interest at the 3.00% level, where it once again closed on the day.

Heading into Thursday’s Monetary Policy Statement release there is little to influence the view of domestic economy.

For now, caution surrounding the impact of the NZ drought is offset against concerns for price pressures in areas such as housing.

The market will dissect Thursday’s comments to see which factors are given greater emphasis, in order to inform its OCR view.

For now the market prices a 60% chance of a 25bps hike by year-end. We continue to expect a first 25bps OCR hike in December.

Based on our expectation of steady hikes thereafter to a 4.50% peak in 2015, current ‘fair value’ for 2-year swap is 3.50%. However, we still see potential for dips along the way to higher yields, and would use these as hedging opportunities.

The curve steepened yesterday as the long-end of the curve followed offshore (US) long yields higher. The 2-10s swap curve has moved up to 121bps, threatening to break free of the 95-120bps range that has contained the curve for the past 9 months.

Overnight, US 10-year yields failed to break higher in fairly muted markets, still trading around 2.05% this morning.

A convincing break higher would lead to further NZ curve steepening. However, there is little on the global data schedule in the day ahead likely to significantly impact on US long yields.