“Be the change that you wish to see in the world. “
It has been a while since we have seen so many discussions about the bond market. In this past couple of weeks we have seen moves in the longer part (10 YR) of the yield curve not seen for a while. This has been due to concerns about inflation and the impact this may have on rates. After a period of sustained low inflation globally, particularly in Australia, the thinking now is that we may have seen the low as far as the interest rate cycle and a potential easing to the continued stimulus by central banks.
The RBA met on Tuesday this week and there was no surprise that the official cash rate remained steady at 10bps. The 10-year bond hit briefly a yield of 2% last week before settling back to approx. 1.6% It does not sound like much, but it certainly set the cat amongst the pigeons. That said, the RBA has stated that it will extend its QE (Quantitative Easing) measures of $200 billion over 11 months beyond September 2021. If other central banks are printing money, so too will the RBA, to avoid any increase in the A$. The RBA board has said it will not increase the cash rate until inflation is sustainably within a range of 2-3%. The key is that wages growth will have to be materially higher than what it is sits at a rate of, a dismal rate of 1.2% for 2021 and an expected in case of 1.6% for 2022.
The irony behind all this, is that a steepening yield curve suggests better prospects for the economies. As we have said in prior weekly’s, central banks cannot keep stimulating economies ad infinitum, at some point they will have to let them trade freely. By keeping rates artificially low, risk assets have become overpriced and created a disequilibrium in natural market forces. Of course, calling the top, especially in the equity markets, has only been met with frustration as markets continue to push higher, despite outrageous valuations, creating a self-fulling prophecy of sorts. The higher they go, the more people, especially passive index funds, are forced to buy pushing higher even more.
With $3 trillion still sitting in low interest-bearing accounts like bank and term deposits and the fact that the RBA is committed to keeping rates at 10bps for at least the next 3 years, there must be a shift towards higher interest-bearing instruments by default. It’s important to point out that many of the corporate bonds offered by the Bond Exchange have been very resilient when it comes to price thereby maintaining their attractive yields.
The Bond Exchange is committed to the education and delivery of tested alternate fixed income products. Just as investors were wary of ETF’s initially, we believe the rate of market adoption for yield enhanced securities will more than likely grow exponentially in the years to come. The chart below illustrates real GDP (Gross Domestic Product) growth in Australia over the last 6 years. Maintaining this momentum is a key variable when it comes to stimulus.