Australian Bond Exchange Weekly Update
Friday 30th June 2023
- Leaders of central banks, economic analysts and top journalists discussed the state of global monetary policy and the ‘volatile inflation environment’ wreaking havoc on markets at the ECB Central Banking Forum 2023.
- Slow growth, high inflation, rising wages, low unemployment and high interest rates have led to a “unique mix of high inflation and stability risks,” and markets just aren’t sure how to price it.
- Yields continue to rise, as fixed income investors seek to achieve yields of 7-8%, plus the potential for capital gains as assets reach maturity.
- As next week’s decision regarding the RBA cash rate looms, new monthly CPI data sees commentators split in their opinions as to whether the RBA will hike the cash rate, or pause.
- The Mortgage Cliff has arrived, according to CBA fixed-rate mortgage data, which could see some Australians searching for an additional $15,000/year to meet rising repayments.
Global Cash Rates & Inflation
- The RBA Cash Rate is at 4.1%, the quarterly inflation rate in the year to March is 7%, the next RBA meeting is next Tuesday, 4th July.
- The BOE Cash Rate sits at 5%, hiked 50 basis points last week to fight an inflation rate of 8.7%, with the next meeting set for Thursday 3rd August.
- US Federal Reserve cash rate is currently between 5-5.25% and inflation sits at 4%, with the next FOMC review meeting set for the 25-26th July.
- The ECB Cash Rate is at 3.5% and inflation is at 6.1% in the year to May, with the next review set for Thursday 27th July.
An unprecedented era of “free money” leads to sticky inflation, wreaking havoc on global markets
This week the leaders of central banks, economic analysts, and top journalists, were invited to the ECB Forum to discuss the state of global monetary policy and the ‘volatile inflation environment’ wreaking havoc on markets. Pernicious inflation, tight labour markets and strong consumption were the common themes noted across major economies keeping inflation rates high, as governments and central banks battle with a post-COVID19 economic environment and geopolitical pressures disrupting global supply chains.
According to International Monetary Fund (IMF) figures, despite their differences in approach, Australia (who focused on fiscal stimulus payments), the US (who focused on Quantitative Easing) and the EU (who focused on a range of measures), all provided substantial COVID19 stimulus packages equating to 7%, 10% and 7% of GDP respectively.
The stimulus did its job in keeping economies afloat, however, as consumers emerged from the lockdown era of cheap money and restricted movement, they unleashed “a wave of pent up demand.”
It was this expansionary stimulus and consequent surge in consumer demand, paired with a lack of domestic housing supply, and exacerbated by the supply chain disruptions driven by the Russia and Ukraine conflict, that have worked in conjunction to create this sticky inflation.
Markets prove tricky to predict, making inflation even harder to tame.
Though the report confirmed global inflation is starting to ease, primarily due to the reopening of supply chains and drop in commodity prices, tight labour markets and rising costs of services are still proving tricky to predict, and even trickier to tame.
The good news is, fixed income investors have a unique opportunity to benefit from yields that are “definitely higher” than they have been in years, according to Teiki Benveniste, the head of Ares Australia Management.
Speaking to Livewire, Benveniste said “Investors can achieve an annual income of 7-8% plus the potential for capital gains as assets move closer to maturity by investing selectively in the global credit universe.”
“If you look at the syndicated loan market, for example,” Benveniste continued, “we are in the 95th percentile of yields compared to historical levels since the Global Financial Crisis.”
Monthly CPI data causes contention as the RBA July cash rate decision looms
This week, the Australian Bureau of Statistics (ABS) also had inflation on their radar, with the release of the Monthly Consumer Price Index (CPI), which caused contention amongst analysts in regard to how the RBA would interpret the data at the cash rate meeting next Tuesday.
However, when reviewing the data, some analysts noted the Quarterly CPI Indicator (not the monthly indicator) is the more reliable index used to inform RBA decisions, and that items like housing, food or fuel with fluctuating prices, can impact the headline figure.
Michelle Marquardt, ABS head of prices statistics explained “It can be helpful to exclude items with volatile price changes… to provide a view of underlying inflation.”
“When excluding these volatile items, the decline in inflation is more modest,” she continued. “The annual increase for the monthly CPI indicator was 6.4 per cent in May, slightly lower than the rise of 6.5 per cent recorded in April.”
If the shocking 50 basis point hike by the Bank of England (BOE) last week (when inflation stuck at 8.7%) is anything to go by, this stubborn inflation figure could in fact see the RBA hike again next Tuesday.
Considering the recent data that shows a drop in job vacancies, lower than expected earnings, an increase in hardship agreements and sticky inflation, it does seem likely that President of the ECB Christine Lagarde was right when she said,“We have made significant progress but – faced with a more persistent inflation process – we cannot waver, and we cannot declare victory yet.”
The ultimate cliffhanger, will savings buffers cover rising rates?
If the RBA does in fact hike rates again next week, by either 25 basis points to 4.35% or 50 basis points to 4.6%, mortgage holders will no doubt be feeling the pinch.
While variable rate mortgage holders have been slowly paying more and more for their loan since the RBA started the climb in May 2022, it’s the fixed-rate mortgages that are of most concern.
The RBA calculates that $350 billion in fixed-rate mortgages will expire in 2023, and switch over from fixed rates as low as 2% to variable rates in the 6% range, costing up to $15,000 more in repayments per year.
The pressure on mortgage holders can be seen in the recent housing sales data, which showed a cohort of pandemic-buyers selling houses at a loss. 5.5% of all loss-making sales were for houses owned less than 12 months, suggesting that those who bought in the COVID19 era of free money would prefer to cut their losses, rather than face the rising cost of debt.
Additionally, there is now a threat of what commentators have called “zombie mortgage” risk, as data from the big four banks shows $267 billion was provided to borrowers taking on a loan more than six times their annual income.
Shown in the graph below, CBA-originated fixed rate loans have already reached the peak of the mortgage cliff. As these mortgages reach maturity, and owners cop an increase in their interest bill of 4%, we can only hope that the substantial savings buffers built during the pandemic keep a roof over their head.
What’s coming up next week:
- Next Tuesday 4th July, the Reserve Bank of Australia (RBA) will decide whether to hike the cash rate again or hold it steady at 4.1%.
- Next Thursday, the Federal Reserve will release the minutes from their last monetary policy meeting, where they chose to hold the cash rate between 5-5.25%.
- From next Wednesday to Friday, the 8th OPEC International Seminar will be held in Vienna, Austria. Attended by representatives from 15 oil-rich nations, the nations will be discussing the transition Towards a Sustainable and Inclusive Energy Transition.
*Data accurate as at 30.06.2023
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