Outright yields and spreads between LGFA and NZ Govt Stock equivalents appear attractive

By Kymberly Martin

There was little response in NZ rates markets yesterday to consistent strong domestic data (ANZ business confidence, Fonterra milk price pay-out forecast). This reflects the fact that a positive view (and fairly aggressive OCR track) is already priced by markets. Around 70bps of OCR hikes are now priced for the year ahead. It may also reflect some reluctance to push yields much higher ahead of the key US risk events this week.

Yields closed up 2bps across the curve, with 2 and 5-year swap at 3.35% and 4.14% respectively. The 2-10s curve remains at 133bps.

Yesterday’s LGFA auction of $10m of LGFA15s and $185m of LGFA21s showed a tighter range of successful bids than the last event, but still fairly modest demand overall.

For the 2021 maturity there was an 11bps range of successful bids compared to 26bps at the last event. The average successful yield was 5.03%.  Outright yields and spreads to NZGB equivalents (around 98bps for 21s, 90bps for 19s) are starting to appear attractive. We would look to position for tactical LGFA-NZGB compression via the 2019 maturity.

Overnight, the upside surprise on US Q2 saw US 10-year yields surge from 2.62% to briefly touch 2.70%. Momentum then fizzled out approaching this morning’s FOMC announcement.

There is no domestic data today. Tonight the ECB and BoE announce interest rates. Neither is expect to change their target rate from 0.50%. All eyes will then remain firmly on tomorrow night’s US payrolls data.

With the Fed having indicated it is in no particular rush to tighten policy, a solid report (consensus expects 185k) will be required to sustain current yields levels.

Overall, we see US 10-year yields in a 2.40%-2.80% range for now. This is consistent with around a 4.10% to 4.40% range on NZ 10-year bonds yields.