New Zealand 10-year government bonds are trading at the widest spread to comparable U.S. Treasuries since November last year and the gap may grow amid signs the American economy is sliding back into recession.
The yield on New Zealand’s benchmark May 2021 bond was last at 4.51% while U.S. 10-year Treasuries closed on Friday at 1.99% - a gap, or spread of 252 basis points. That’s the widest since mid-November, when the spread reached 296 basis points.
Treasuries extended their rally after figures on Friday showed the world’s biggest economy added no new jobs in August, compared to expectations of 60,000 jobs in a Bloomberg survey of economists. The 10-year U.S. note is nearing the record low 1.97% reached last month while its New Zealand counterpart is near the lowest in just two years.
“The market is vulnerable to another correction,” said Grant Hassell, head of fixed interest at AMP Capital Investors in Wellington. “I could see (10-year Treasuries) at 1.75%.”
He said New Zealand debt is typically a “low beta” market, meaning the swings in yield tend to undershoot those in other markets.
New Zealand bonds have weakened in the past four weeks, nudging yields higher, after rallying with U.S. bonds early last month when Standard & Poor’s cut the U.S. credit rating below AAA. Since then, traders have debated the prospects for a third round of quantitative easing by the U.S. Federal Reserve.
Fed chairman Ben Bernanke said at the central bankers’ summit at Jackson Hole, Wyoming last month that he had “a range of tools that could be used to provide additional monetary stimulus” which will be considered when the Fed meets on Sept. 20.
While the Fed is seen keeping its benchmark interest rate target near zero for the foreseeable future, it may effect further easing by other means. Bloomberg cited economists at firms including Wells Fargo & Co. as saying the central bank could replace short-term Treasuries in its US$1.65 trillion portfolio with longer-dated debt in an effort to reduce American’s borrowing costs.
By contrast, the Reserve Bank of New Zealand is seen raising the official cash rate by 50 basis points to 3% over the next 12 months, according to the Overnight Index Swap curve, removing the emergency stimulus put in place after the February earthquake. Economists say Governor Alan Bollard will probably hold off on raising the OCR at next week’s monetary policy statement.
AMP’s Hassell said it may take gains in Australian government bonds, pushing yields lower across the Tasman, to pull down yields on New Zealand government debt.
He expects the yield gap with the U.S. will draw foreign investors to Australian bonds more than the kiwi counterparts as the Australian market has greater supply and liquidity.
The Reserve Bank of Australia holds its board meeting tomorrow, though no immediate move on interest rates is expected and Governor Glenn Stevens is due to give a speech on Wednesday
Helping drive demand for Australian government bonds is reports that Russia plans to buy up to $5 billion in Australian dollar denominated assets, to diversify away from the greenback.