UST yields and European rates both turn higher and credit spreads turn lower as markets react to more positive data. Local yields follow higher, easing OCR rate cut bets

By Jason Wong

US Treasury yields have continued to grind higher as traders re-think their outlook for monetary policy.

The 10-year rate is up 3 bps to 1.85%, its highest level in almost 4 weeks. Fed fund futures now suggest a slightly better than even chance of a 25 bp hike by September. 

Helping guide US Treasury rates higher are higher European rates. Lower European rates were previously instrumental in holding US rates down, as investors seek yield. German 10-year bunds were up 6 bps to 0.21%. Improved risk appetite has encouraged the recent move up in yields.

In local trading, interest rates moved higher across the curve, a response to the decent sell-off seen in offshore trading.

The 2-year swap rate rose by 5 bps to 2.43% while the 10-year swap rate was up 8 bps to 3.11%. The long end of the government curve saw an even bigger sell-off from its historical low, with the 10-year rate (2027) up 10 bps to 3.02%. 

Global credit spreads are contracting, in line with the improvement in risk appetite, but the bias for local credit spreads is for expansion. This reflects a combination of local credit spreads having previously been “too tight” and a market that is now seeing increased supply.

Some of the easing priced into the NZ OIS curve was taken out.  Only 6 bps of easing is now priced in for next week’s MPS, implying a 24% chance of a 25 bp easing.  A full rate cut is still priced in by June.

Based on overnight trading, yields should move higher again today.

Certainly, with the run of US data of late it feels that the current upswing in yields could go further yet.  Clearly the rebound in oil prices has been a driver, as it has boosted risk appetite, but we remain wary that the boost to oil prices can be sustained. Recent gains in oil prices have been boosted by speculative traders going “long”. Fundamentally, the crude oil market remains over-supplied, with inventory levels continuing to rise.