15th December 2021
“Small opportunities are often the beginning of great achievements” – Anonymous
It has been one of the most challenging 2 years in modern history and that said. Last week the RBA (Reserve Bank of Australia) decided to maintain the status quo coming into year-end keeping the official cash rate at 10bps and continuing to buy securities at a rate of $4billion a week. Given the recent firming of market sentiment in the US, the FOMC is likely to announce an acceleration of its taper plans at its meeting next week and there was some speculation that at the December meeting the RBA Board might have announced plans to scale back the taper in February.
As we have mentioned in prior editions, the RBA’s decision on monetary policy will to a substantial extent be based on how central banks around the world are positioning and progress towards the full employment and inflation goals. These key forecasts will be watched closely at the RBA’s February meeting which will possibly set the tone for policy in the early part of 2022.
The themes, for the better part of this year, have centred around the monetary policy stance of central banks around the world, all with a view to being accommodative and supportive for economies in the face of a relentless pandemic. Whilst we would like to broaden our horizons a little, it has been hard to move away from these constantly recurring issues.
It has been a long year and you can even tell from the thickness of the newspapers that the information flow has started to wind down. For now, we believe that things should remain stable leading into New Years, and we will have to wait until the RBA’s first meeting for the year in February to get some insight into what we are likely to expect for 2022.
In summary, while significant risks remain, the data flow of recent weeks has continued to point to strong job creation and robust momentum in activity across the developed world. This is despite difficulties in containing delta in the US and Europe, and the threat omicron poses to confidence and activity.
Given the global economy’s strength, dynamic policy making by the FOMC and other major central banks is not to be feared. Instead, as a baseline expectation, it is best to hold that authorities will continue to adapt their decision making to the evolving circumstances, actual and expected, reducing inflation risks, and sustaining growth at or above trend. As a result, we continue to believe that the rate hike cycles to come through 2022-2024 will be modest versus history, but also that policy rates and term interest rates will sustain at or near peak levels to the end of the horizon as healthy growth continues.
From a bond market perspective, we believe rates are unlikely to change for at least the next 12-18months at the very least. The 10-year bond, which discounts market expectations is currently sitting at 1.8% so, for investors fearing a rising rate environment, it is already factored into prices. In that context the current range of bonds on issue are offering returns of 4.5-7% yields to maturity.
The chart below is interesting as it highlights how yield curves across developed economies have been steepening ever so slightly over the course of the last 3-6 months. It certainly paints a picture of what could be termed the inevitable for interest rates. That said there is still a lot of water that needs to flow under the bridge before central banks pull the trigger!
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