After initial jolt swap rates recover to start the week higher across the curve

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The following is a summary of the key events impacting fixed income markets over the past week.

The local market will likely have one eye on the Richter scale this week as well as the RBNZ 2yr inflation expectation survey. The RBNZ is still very much focussed on inflation and is conscious of the outlook given the strong economic indicators present.

Quake fails to shake swap rates

The recent run of earthquakes in central New Zealand initially sent swap rates and the NZD lower, however the move was short-lived with swaps opening the week +3bp to +7bp higher across the curve.

The long-end of the curve continues to follow its US counterpart and its sell-off last week saw the New Zealand yield curve steepen by +14bp to 148bp. We may see the curve continue to steepen slightly until the RBNZ signals its intentions clearly.

September may well hold the key, with the RBNZ releasing its Monetary Policy Statement (MPS) on 12 September and the Fed holding its policy meeting just six days later. The market consensus is that September’s FOMC meeting will bring the start of the tapering and monthly purchases will be cut by US$10bn to US$75bn. Depending on what the RBNZ announces in its MPS six days earlier, we may see some change in the shape of the yield curve.

If the RBNZ is hawkish and the Fed announces some form of tapering then the slope of the yield curve may remain unchanged as the short and long-end could move in unison. Similarly, a hawkish RBNZ and bearish Fed may see a flattening of the New Zealand yield curve.

‘Taper talk’ continues to dominate

We have heard about ‘tapering’ for some considerable time and the Fed appears to be providing enough hints to the market in an attempt to smooth any market disruptions when tapering occurs.

Last week we had Richard Fisher (President of the Federal Reserve Bank of Dallas) who stated, “The economy is improving. We’re seeing better numbers in the economy. You would expect to see a steepening of the yield curve.”

As we have published many times, the long-end of the New Zealand curve is highly correlated to US long-end. Fisher’s comments were significant given he has been one of the biggest hawks and will become a Fed voting member in 2014. As a result, 10-year US Treasury yields hit a two-year high of 2.86%.

Credit market wider

The yield on the ANZ Investment Grade Bond Index reached its highest level since early 2012, rising to 4.91% before closing the week at 4.85%. Credit markets offshore performed in a similar fashion with the US market +6bp wider and European and Australian credit markets +3bp and +1bp wider respectively.

NZGB’s still in demand but foreign holders exit

The New Zealand Debt Management Office sold NZ$300m of 15 April 2020 New Zealand Government Bonds last week. The tender received NZ$815m worth of bids which saw the bonds sold at a weighted average yield of 4.35%.

RBNZ inflation expectation 2 years out is due on Tuesday 20 August.

10-year swap rate hits 5.00% 

We are continuing to see the market price in higher interest rates in a years’ time. We will not get an official update from the RBNZ until 12 September when the central bank releases its Monetary Policy Statement. The move higher has been a gradual process with the 10 year swap rate now at its highest level since 3 August 2011 and +1.47% higher than its all-time low of 3.53% in October 2012. However, we are still a long way off the long-run average of 6.53%.  

For bond investors; the news of higher interest rates is both good and bad. The good news for bond investors is that any new issues (if there is any of course) should see higher coupons than recent issues. However, higher coupons are not guaranteed given credit spreads continue to narrow as the ‘feel good’ factor filters back through businesses and investors’ alike.

Short-end forecast to catch up in 2014 

Figure 1 below highlights the impact that the RBNZ is likely to have should it begin to raise the OCR. At present the long-end of the curve remains heavily influenced by offshore events, in particular the US.

With the RBNZ expected to leap into action in March 2014, the 1-year swap rate is currently expected to be 1.15% higher than it is now with the 10-year only 0.38% higher. This means the yield curve (10 year less 2 year) will flatten by around 0.48% by August 2014.

The yield curve shape from a year ago looks relatively identical to the forecast yield curve in one years’ time. What would this mean for a bond portfolio? A simple way to calculate the impact of moving interest rates is via duration.

3-year bond portfolio duration is ideal A bond portfolio duration of say 3.0yrs means that for a 100bp (1.00%) change in the yield for each of the bonds in a portfolio, the market value of the portfolio will change by approximately 3.0%. Keep in mind, the yield for each of the bonds must change by 100bp for the duration measure to be useful. In other words there must be a parallel shift in the yield curve.  

Investors are fortunate in Australisia to have a number of floating rate securities (especially common in the Australian market) and securities that have their coupons/dividends reset annual or on a three year cycle. These types of instruments can help insulate a bond portfolio from the impact of rising interest rates and can also help shorten the duration. 

Corporate / Credit news

ANZ (Australia) provided a trading update for the nine months to 30 June 2013. ANZ’s statutory profit increased by +7% to A$4.7bn. The group’s net interest margin narrowed by -2bp as deposits increased by +12% and lending rose +8%. In New Zealand, ANZ was pleased with its transition into one brand.

APN News & Media (APM010) reported its 2013 interim results for the six months to 30 June 2013. EBITDA fell -4% with NPAT rising A$1m to A$16.2m. APN’s radio network performed well however overall trading conditions remain tough with possible divestments options being evaluated for brandsExclusive. APN had ~A$170m of undrawn credit facilities at 30 June 2013 and its key bond covenant, Net debt / Senior debt is 3.1x, comfortably under the 4.0x limit.

ASB posted another record result for the year ended 30 June 2013. ASB’s NZ$705m NPAT was +3% higher than the pcp with net interest margin rising +9bp to 2.25%. ASB also managed to grow both sides of its balance sheet with lending up +9% and deposits rising by +6%.

SKYCITY Entertainment Group (SKC) announced an average FY13 result, however debt levels reduced with net debt sitting at NZ$607m and an average debt maturity of 4.8 years. SKC believe they have enough facilities (or potential facilities) to be able to fund their two big projects in Auckland and Adelaide.

The RBNZ released its submissions to its consultation paper on loan-to-value restrictions. Whilst no specific details were given in the sense of limits, the examples used were loans with LVR’s of >80% would be restricted to 12% of a banks’ new lending. Interestingly, some banks’ said they would struggle to comply even if it ceased all new approvals of high LVR lending. This would suggest there are a number of high LVR approvals out there in the market place.

Transpower (TRP) released its FY13 financial results with profit from continuing operations rising from NZ$78.6m in FY12 to NZ$197.4m primarily down to the sale of one of its business units. The debt levels continue to increase rising from NZ$2,318.5m in FY12 to NZ$2,937.2m in FY13. 

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