The NZD and NZ rates are higher over the past 24 hours in the wake of the RBNZ’s MPR, which the market interpreted as opening the door to an OCR hike next month. The market now prices around a 70% chance of an August hike. Offshore, the US 10-year rate has dropped back below 1.40% while the USD has reversed yesterday’s post-CPI appreciation. There hasn’t been much new from Fed Chair Powell’s Congressional testimony, with the USD and rates making most of their moves lower before Powell started speaking. Elsewhere, the Bank of Canada tapered its bond buying, as expected, but the statement disappointed market expectations, seeing the CAD underperform. Finally, media report that Saudi Arabia and the UAE have agreed to a deal over oil quotas, paving the way for an increase to OPEC+ supply in the coming months.
The July Monetary Policy Report marked a change in tune from the RBNZ. The RBNZ kept the OCR at 0.25%, as universally expected, but announced it would stop buying bonds under its LSAP programme next week. The headline to the statement read “Monetary stimulus reduced.” This signals a shift in direction in RBNZ policy towards tightening.
The RBNZ’s decision to stop its bond buying, which had been set to run until June 2022, is significant because it clears a hurdle for OCR hikes. The RBNZ wouldn’t raise the OCR, which is a monetary policy tightening, while it was still buying bonds, which is a monetary policy easing. The corollary is, with the RBNZ set to finish its bond buying at the end of next week, the market is now ‘on notice’ for OCR hikes from this point forward.
The RBNZ gave no indication around the timing of possible OCR hikes, so it is not locked into any course of action, but the market moved swiftly to bring forward the expected timing of tightening. Pricing for the August meeting moved from 0.31% to 0.42%, implying around a 70% chance of a rate hike next month, with around 1½ hikes now priced by the November meeting. The 2-year swap jumped 13bps, to 0.98%, with rates out to 5 years reaching their highest levels in more than 12 months. The 10-year swap rate was up a lesser 6bps, to 1.85%, with the flattening of the yield curve a typical market reaction to expected imminent cash rate hikes. The NZD has been the clear outperformer in the currency market over the past 24 hours, up more than 1% from this time yesterday, to around 0.7030, while the NZD/AUD cross has touched 0.94 for the first time since early June.
Key domestic economic data between now and the August meeting includes Q2 CPI on Friday and the HLFS labour market report in early August. It’s not difficult to see the market going close to fully pricing a rate hike in August if the data surprises on the upside (we see the risks in that direction). Indeed, our economists changed their OCR call after the MPR and now see the first hike coming in August, a view shared by all the major local banks. Market debate is likely to shift to how quickly the RBNZ might lift the OCR and how high it might need to go.
Earlier in the day, ASB announced it would increase fixed mortgage rates out to 5 years, the first of the big banks to move on the key 1 and 2-year tenors that are popular with borrowers. With OCR hikes looking very likely in the coming months, we should expect further upward pressure on mortgage rates in due course.
In Australia, Sydney’s lockdown was extended for another two weeks, until “at least” 30 July, with the state recording a further 97 Covid-19 cases yesterday. Concerningly, there were seven new cases reported in Melbourne, one of whom had attended an AFL match at the MCG, raising a clear risk of a lockdown there as well, given the high infectiousness of the delta variant. There wasn’t any obvious reaction to the news in markets, with the lockdown extension in Sydney at least seen as a mere formality after the high case numbers in recent days. The risk of a community outbreak in NZ remains a clear threat to the market’s pricing of an OCR hike as soon as August.
Fed Chair Powell has been testifying to Congress over the past few hours, although there haven’t been any major surprises. Powell acknowledged that inflation has been “higher than expected and hoped for” but reiterated that the Fed thought temporary factors were mostly to blame. Powell added that if the Fed thought inflation pressures could prove persistent “we would absolutely change our policy as appropriate.” US Treasury bond yields are lower overnight, with the US 10-year rate pulling back from above 1.40% to 1.36%, but most of this move occurred before Powell started speaking. In currencies, the USD is lower across the board, with the BBDXY down 0.5%, effectively reversing yesterday’s post-CPI appreciation.
The Bank of Canada delivered its Monetary Policy Report overnight, keeping its cash rate unchanged, at 0.25%, and tapering its bond buying from $3b/week to $2b/week, as expected. Like in April, the BoC alluded to a cash rate hike in the second half of 2022, when it forecasts spare capacity to be absorbed, although this evidently disappointed a market looking for more hawkish guidance. Canadian interest rates declined, although the first 25bp hike is still priced for around the middle of next year, while the CAD is around 0.5% weaker since the statement was released. There were some dovish undertones in the press conference, with Governor Macklem saying the BoC’s goal was to achieve a “full and inclusive” recovery while arguing current inflation pressures were mostly temporary, driven by supply chain disruptions and reopening pressures.
UK CPI surprised on the upside for the second month running, with core inflation now running above target, at 2.3%. In a subsequent speech, Bank of England MPC member Ramsden added there was a risk that inflation peaks around 4%, much higher than the BoE’s current projections. Ramsden added that he could see the BoE tightening policy earlier than previously indicated given the “rapid pace of developments since we published our May forecasts and the shift in the balance of risks.” The GBP hasn’t been much affected by either the CPI release or Ramsden’s comments and it has underperformed overnight, albeit still gaining 0.3% to around 1.3860.
Oil prices have fallen, with Brent crude oil down 1.7% to just above $75, after media reported that Saudi Arabia and the UAE had agreed to a compromise over oil supply. According to reports, Saudi Arabia has agreed to increase the baseline for the UAE’s oil quota, which should clear the way for OPEC+ to gradually increase oil production over the coming months. Other countries in the cartel still need to sign off on a changed baseline for the UAE.
Equity market performance has been mixed higher overnight, with the S&P500 up 0.2%, the NASDAQ flat, and the EuroStoxx 600 index down 0.1%. The Energy sector has been the big underperformer on the S&P500 owing to the fall in oil prices with the Financials sector also down, with the market seemingly unimpressed by the earnings reports from Citi and Bank of America (Wells Fargo bucked the trend, rising over 3% after posting higher revenues).
There is plenty on the agenda again today. In Australia, our NAB colleagues look for a slightly below-consensus 10k increase in jobs in June, after May’s blockbuster 115k increase. China’s monthly activity indicators and GDP are also released this afternoon, with consensus for the latter at +1% q/q growth in Q2. Fed Chair Powell delivers round 2 of his testimony tonight, this time to the Senate. Finally, the market will be on the watch for post-MPR interviews by RBNZ officials over the coming days to get a sense of whether the Bank is happy with the market’s interpretation of yesterday’s statement.