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Record-low bond yields likely to sink further

Record-low bond yields likely to sink further

Sarah Simpkins
— 1 minute read

Australian bond yields have been predicted to slip even further before they can recover from already plunging to record lows.

As of Wednesday, the Australian 10-year bond had a 1.77 per cent yield, with the yield curve being flat in long-term against short-term maturities and the Reserve Bank rate sat at 1.5 per cent.

The decline is reflective of falling bond yields globally, with concerns of weaker global growth and less talks of interest rate hikes, he added.

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Based on past market movements, bond yields may be yet to hit their absolute bottom.

The prior record low for bond yields was 1.81 per cent, which occurred in August 2016.

“Late last year, we saw renewed worries about global growth and saw the Aussie bond yield come down, you’d have to go back to around about early November where it was 2.75 per cent,” said Shane Oliver, chief investment officer, AMP Capital.

By the end of the year it had fallen to below 2.5 per cent and it had been grinding down ever since.

Investors are feeling nervous about the outlook, Mr Oliver said, but he said there needs to be more evidence before wealth managers will worry, with there being no signs of a recession such as monetary tightening.

Mr Oliver said he was reasonably optimistic, but would not rule out bond yields falling further in the short-term.

“Particularly in Australia, because we just see the Reserve Bank cutting interest rates here and we think Australia will slow further before it gets better and that could mean bond yields could have more downside to go,” he said.

He has estimated that bonds could sink to their lowest in May or June, following on from share markets in Australia bottoming in December after last year’s falls.

“It’s quite common when you see a sharp fall in share markets, you only see the bond market bottom several months later,” Mr Oliver said.

“For example, in 2015 to 2016, shares fell roughly 20 per cent around the world. Then they bottomed in February 2016, then they started to grind higher.

“But the bond yields didn’t bottom until July or August of 2016, so they kept going down for quite a bit longer and that could be what is about to happen here.”

Raymond Lee, managing director and portfolio manager for Kapstream Capital said the drop in local bond yields reflects a bearish view on the economy domestically.

“Right now, there is more of a tilt to the RBA might cut rates, compared to last year when people felt more neutrally or that RBA might even hike rates,” he said.

“There is also concerns around housing and what that might do that might do to consumer spending, that has led to the rates have been lower here as well.”

As money comes into the Australian bond market, it pushes down the yields, Mr Oliver added.

“Declining yields globally will also push our yields down, because an investor will say I’m in Germany at the moment, bond yields are zero, I won’t buy German bond yields I may buy Australian instead, where I can get 2 per cent for example,” Mr Oliver said.

“That action pushes Australian bond yields down.”

Also likely to affect local bond yields is credit interest rates, Mr Oliver said.

“In the last few months we’ve sensed a run of weak economic data, particularly in Australia in relation to the downturn in house prices.

“That in turn, has seen the local money market move to factor in two cuts to interest rates during the next year.”

US Treasuries had seen 10-year yields hit a 15-month low earlier this week, near 2.38 per cent, which was felt across the global market as fears of an oncoming US recession were felt.

US yields somewhat recovered from the record lows on Tuesday.

Three-month bond yields had risen above the 10-treasuries, causing an inversion of the yield curve and aligning with past inversions that have historically occurred before economic recessions.

Mr Oliver countered that by saying the drop was not enough by itself to indicate a recession.

“The first complication is that the lag from the yield curve to a recession can take around 15 months,” he said.

“The share market only looks three to six months ahead so if it’s inverting now, it would imply that a recession if it came along, would not happen until the middle of next year, which is a long way away and is too far away for the market to factor in.”

He also noted that there have been instances of yield curve inversions being false indicators of a recession ahead, in addition to the central banks distorting further drops with their actions.

The US Federal Reserve last week further delayed further interest rate hikes for a year, with only one raise in 2020 and the acknowledgement that the US economy is slowing.

Both ANZ and NAB’s bosses had been questioned about bond yields hitting record lows in the Parliamentary Inquiry proceedings today.

Shayne Eliot, chief executive, ANZ said the fall would have consequences for his bank in terms of the the level of demand for credit going forward.

“The concern would be that the outlook of the market is that the economy is slowing to such an extent that they are predicting that interest rates will be lower for a lot longer,” he said.

Philip Chronican, chair and interim chief executive of NAB, said: “Low interest rates obviously have a number of effects so they affect borrowers and investors in different ways. The income commitment on the investment community is one of those.

“But obviously a lower cost of funds and a low-interest environment certainly makes borrowers relatively better off than they might have been. I don’t have a view either way.”

 

Record-low bond yields likely to sink further
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