Opinion: Why short term rates will rise in 6-9 months

By Roger J Kerr Bank money market traders have now thrown away their own banks' very gloomy economic forecasts of a deep and protracted recession and re-priced the interest rates on the more optimistic RBNZ outlook on life. Their own bank economists will be using every piece of anecdotal and economic evidence to support their doom and gloom outlook, but for the meantime the short-term interest rate dealers will believe what they always believe in, the RBNZ is always correct with its economic forecasts! It is a funny old world, but at least the RBNZ now appear to have moved on from their previous short-term focus centred on very changeable forecasts from bank economists. The RBNZ's +4% annual GDP growth forecasts for 2010 appear somewhat high, but remember the very low base the annual comparisons are measured against.

I cannot see what local economic or financial news from here would send our interest rates back down to below their record lows seen a month ago. The 1 to 3 year swap rates are up 25 to 30 basis points from their record lows, the 4 to 7 year swaps up 50 to 60 basis points and the 7 to 10 year swap rates have increased by 70 points. I may be a touch presumptuous, but I think we have already seen and passed the bottom in this spectacular interest rate cycle. Even if the good Doctor cuts the OCR another 2 x 0.25% over coming months to 2.50%, the 1-year swap rate is not going back to 2.75% (currently 3.08%) The December 2008 quarter's GDP contraction is now likely to be -0.8% following Monday's weak manufacturing data. This outcome is already priced-in to the interest rate markets, only a surprise greater than -1.00% would push market interest rates back down again. The March quarter GDP number will also be negative as most consumers have put the wallets away since Christmas. However this is also already priced into the market. Interest rates should now stay stable until some positive economic news emerges. This is still several months away, but even a casual glance of the now very steep upward sloping yield curve tells you that there is an inevitability of rising short-term interest rates in 6 to 9 months hence. ---------------- * Roger J Kerr runs Asia Pacific Risk Management. He specialises in fixed interest securities and is a commentator on economics and markets. More commentary and useful information on fixed interest investing can be found at rogeradvice.com