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The following is a summary of the key events impacting fixed income markets over the past week.
The New Zealand market has now digested the hawkish RBNZ Monetary Policy Statement, with attention now shifting to the US Federal Reserve meeting this week. The direction of local interest rates looks to be one way, however the scale of the movement of the short-end versus the long-end of the curve remains to be seen until the Fed meeting.
Market reaction muted
The market reaction to last week’s Monetary Policy Statement (MPS) was fairly muted given the market had already been forecasting a rise in the Official Cash Rate (OCR) in early 2014.
The RBNZ cleared the way for OCR hikes in 2014 with the comment “OCR increases will likely be required next year”. Whilst the RBNZ significantly increased its 90 Day Bank Bill projections towards market expectations, the market does remain a little more hawkish, with further OCR rises forecast. The inflation issue must have become quite a concern for the RBNZ given the upward move in the projected cash rate. LVR and NZD issues aside, the RBNZ is charged with price stability first and foremost.
The steepness of the yield curve (10yr less 2yr) remains at 156bp, however that may change this week if there is some unexpected commentary from the Fed which may impact the long-end of the curve. As we can see in Figure 16 (back page), New Zealand long bonds are highly correlated to the US 10 year treasuries.
US Tapering, is this it?
It wouldn’t be a market or fixed interest report without the word ‘tapering’ in here somewhere, however this week it is justified as the world awaits the outcome of the Fed’s two-day policy meeting.
Ben Bernanke will deliver the outcome of the two-day policy on Friday morning NZ time. It is widely expected that the Fed will announce a reduction of between US$10bn to US$15bn a month to its US$85bn per month bond purchasing programme. Any sort of deviation away from this outcome may have an impact on global markets (both bonds and equities).
Global bond market (not in NZ)
The threat of rising interest rates did not deter investors’ who gobbled up US$49bn in Telecom giant Verizon bonds issued last week. In what was the largest corporate bond deal in history, Verizon sold the bonds over eight tranches with attractive yields i.e. 225bp over US 10 year treasury.
Bond sales in the US last week hit a new record (obviously) with over US$80bn issued, however globally, bond issuance is still -7% lower than the pcp at US$1.8 trillion.
Credit markets/Indices
The yield on the ANZ Investment Grade Bond Index pushed through the 5.00% barrier, closing the week at 5.02%, up +8bp. There remains plenty of demand for quality bonds as shown by Westpac’s monster NZ$800m 5-year issue completed last week at a margin of 103bp.
Offshore credit markets were overall a touch tighter with the US -1bp and Europe -2bp. Australian however was +2bp wider.
Inflation pressure is building
The Reserve Bank of New Zealand delivered a hawkish Monetary Policy Statement which cemented many ‘experts’ thoughts as to the timing of a possible hike in the Official Cash Rate (OCR).
Some key points from the MPS:
- Commentary included “OCR increases will likely be required next year.”
- 90 Day Bank bill track increased by 50bp (80bp if you include LVR impact)
- Construction boom is creating inflationary pressure
- RBNZ comes closer to market expectations on OCR hikes
The explicit language used in the MPS regarding “OCR increases will likely be required next year” dismissed any doubts that the next move in the OCR will be up. The question that does however remain, is when?
The market had been pretty confident that the RBNZ meeting in March 2014 would see the beginning of the tightening cycle and the MPS confirmed those forecasts. However it appears the market has move to price in two 25bp hikes by mid-2014. So just when the RBNZ finally catches up with the market, the market moves again.
Inflationary concern is clearly in play here with both the construction boom and rising house price causing the RBNZ to be ready to be on the front-foot. As mortgage rates are already +40bp higher, many mortgage holders are switching to fixed rate mortgages.
Borrowers who are on fixed rate mortgages are immune (for some-time anyway) from a possible rise in the OCR, making monetary policy less effective. Below in Figure 1, the RBNZ restated its 90 day bank bill projections which have increased by 50bp by March 2016. The path indicates that a rise in the OCR will occur in mid-2014. What is interesting here is the assumption from the RBNZ that the loan-to-value restrictions is equivalent to around 30bp worth of OCR hikes, therefore the interest rate track highlighted below could have been another 30bp higher.
Most commentary post the MPS has been in agreement with the RBNZ’s new stance and hence market reaction after Thursday’s announcement was fairly muted. Where there was some action was in the currency market (NZ/USD +50bp) where the prospect of New Zealand’s ‘already higher than the rest of the world’s’ interest rate may be raised. The US Federal Reserve meet this week where it is widely expected to announce the reduction in its bond purchasing programme. This may impact New Zealand interest rates (particularly at the long-end) along with the NZD.
Corporate / Credit news
Credit Agricole issued US$1bn of contingent capital notes (CoCos) to investors which include a loss absorbing feature therefore satisfying Basel III regulations. The “20 year non-call five year deal” came with a 8.125% coupon.
Fitch Ratings affirmed New Zealand’s AA sovereign credit rating, retaining its stable outlook. Fitch cited high net external indebtedness a central sovereign credit weakness, however balanced that view with the prospect of fiscal consolidation and stabilisation of public debt ratios.
The Local Government Funding Agency (LGFA) held tender number 15 drawing tepid demand. The LGFA raised NZ$115m across four maturities: NZ$10m via April 2015s attracting a coverage ratio of 1.6x, NZ$15m via December 2017s at a 1.66x coverage ratio, NZ$30m via March 2019s was the most sought after at 3.13x coverage and NZ$60m from May 2021s was similar to the 15s and 17s.
Standard & Poor’s affirmed its AA sovereign credit rating for New Zealand. The outlook is stable with S&P citing New Zealand’s fiscal and monetary policy flexibility, economic resilience, public policy stability and financial sector.
The Warehouse (WHS) announced a FY13 reported profit (pre abnormals) of NZ$73.7m which was at the lower end of recent earnings guidance of NZ$73m to NZ$76m. The result was up +13% on the pcp, driven by the acquisition of Noel Leeming and Torpedo7 over the period. Net debt levels rose by just +2% with total debt rising by +4.7%, overall the gearing fell from 40.1% to 34.5%. WHS interest cover ratio improved from 9.4x to 9.5x.
Westpac (WBC) successfully raised NZ$800m from its five-year fixed rate senior bond offer. The issue margin was set at 103bp, the tightest issue margin on a bank five year deal since the Global Financial Crisis. The coupon was set at 5.545%.
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