OCR decision crucial influence for market pricing

2-10 swap curve expected to steepen as NZ cuts rates and US raises theirs

Bonds

2-10 swap curve expected to steepen as NZ cuts rates and US raises theirs

20th Jul 15, 8:09am by Kymberly Martin

By Kymberly Martin

NZ swaps closed flat to down 2 bps on Friday.

On Friday night, US 10-year yields tracked between 2.33% and 2.37%.

NZ 2-year swap ended the week at 2.86%, at its lowest level since May 2013.

The market now prices an OCR that will be cut to around 2.54% by April next year. We see the OCR being cut back to the cyclical trough of 2.50%, by October this year. If the market moves forward when it sees the trough in the OCR it should see 2-year swap push lower toward 2.70%.

This Thursday’s RBNZ OCR review will be crucial in influencing market pricing.

Although we see a small probability of a 50 bps cut this week, we suspect the RBNZ will stick to delivering 25 bps. The Bank will not provide a published 90-day bank bill track at this meeting. However, the market will be keen to see if the words “We expect further easing may be appropriate”, remain in the statement. We suspect they will.

On Friday night, US 10-year yields briefly spiked higher, above 2.37%, as stronger-than-expected housing starts data were released. However, the move proved short lived as the market absorbed concurrent CPI data. This showed core CPI only in line with expectation, at 1.8%y/y, while real av. weekly earnings were also shown rising 1.8%y/y (from 2.2% previously). US 10-year yields slipped back to end the week just below 2.35%.

We continue to see a 2.20-2.50% range for US 10-year yields near-term. But we ultimately expect a break to the top-side as the US Fed begins to raise rates before year-end.

We see US 10-year yields approaching 2.75% by year-end, which should help further steepening of the NZ 2-10s curve.

The NZ 2-10s swap curve ended last week at 91 bps. We look for steepening over the medium term within a 75-125 bps range.

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Kymberly Martin is on the BNZ Research team. All its research is available here.

Daily swap rates

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Source: NZFMA

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3 Comments

by steven | 20th Jul 15, 11:12am 1437347563

Many seem to be assuming the Fed will raise, the Q is on what substantial basis ie the US economy is questionable, "The latest inflation rate for the United States is 0.1% through the 12 months ended June 2015 as published by the US government on July 17, 2015" (deflation on the sept one? ) http://www.usinflationcalculator.com/inflation/current-inflation-rates/ So really raise rates when inflation is 0.1%???? China looks bad, EU also looks questionable http://ec.europa.eu/eurostat/statistics-explained/index.php/File:Euro_a… and then for how long and how far will it be raised before dropping back on bad data. Interesting to watch, what is wishful thinking/dogma and what is good economics/data/logic.

by Stephen Hulme | 20th Jul 15, 3:50pm 1437364235

In the 12 months through June, the core CPI rose 1.8 percent after May's 1.7 percent increase.

by Stephen Hulme | 20th Jul 15, 4:09pm 1437365380

However, the market will be keen to see if the words "We expect further easing may be appropriate”, remain in the statement. We suspect they will.

Governor Wheeler's words no longer have merit or bear forward forecasting gravitas.

All RBNZ credibility and independence was lost following the most recent 25bps OCR cut, after a public order was issued by the finance minister. Previous claims of a "neutral" 4.5% OCR interest rate were thrown under the bus along with the Governor's reputation.