Australian Bond Exchange Weekly Update
Friday 21st July 2023
Key Points
- The RBA minutes released this week showed rising unemployment concerns played a key role in the decision to pause. However, rising employment suggests another hike is on the horizon.
- US, UK & EU inflation data (easing to 3%, 7.9% and 5.5% respectively) suggests high and sticky global inflation may be easing, as analysts predict interest rates are close to reaching the peak.
- Leading investment advisers are shifting billions of dollars into fixed interest funds and fixed income ETFs, as high yields position fixed income investments as the “stand out asset class.”
- Luci Ellis (new Chief Economist at Westpac) and Michelle Bullock (the new RBA Governor) make history as the first women in the top positions at two of Australia’s key financial institutions.
Global Cash Rates & Inflation
- The RBA Cash Rate is 4.1%. The next meeting is set for Tuesday 1st August. Annual inflation to the March quarter is 7%, with new CPI data (the June Quarter) due for release next Wednesday.
- The UK cash rate sits at 5%, with the next meeting due for Thursday 3rd August. The annual inflation rate has eased to 7.9%, according to new data released on Wednesday.
- The US Federal Reserve cash rate (policy rate) was between 5.25-5.5% last week with the next monetary policy meeting set for early next week. Annual inflation (headline) is currently at 3%.
- The ECB Cash Rate (deposit facility) is 3.5%, with the next rate decision to be made next Thursday July 27th. EU inflation (in the year to June 2023), eased to 5.5%.
New RBA and ABS data sees money markets betting on another rate hike
This week, the Reserve Bank of Australia (RBA) released the minutes of the monetary policy meeting for July, where they paused the cash rate at 4.1%.
The decision was, as some expected, a close call, with the board acknowledging “that inflation [is] now declining – and that this would help mitigate the risk of a rise in medium-term inflation expectations.” Specifically, the RBA was concerned that unemployment would “rise beyond the rate required” to return inflation to target.
However, unemployment data released yesterday from the Australian Bureau of Statistics (ABS) showed the labour force was proving tenacious.
The unemployment rate held steady in June, at an historic low of 3.5%, as employed people increased in line with population growth. Although underemployment increased by 6.4%, according to Bjorn Jarvis (ABS head of labour statistics) “[it] is still low in historic terms, around 2.3 percentage points lower than before the pandemic “
The RBA’s dual objectives, to both return inflation to target and keep full employment, could perhaps be possible – if inflation continues to ease at the same time as employment levels hold strong. This will not be known though, until the release of the June quarter CPI data next week (released here) and the monthly household spending indicator on the 8th of August (released here ), which has proven resilient in the year to May.
These labour force results have seen money markets now hedging their bets (with a “better than 50% chance) that the RBA will increase to 4.35% at the August meeting. This is because 32,600 new roles were added in June alone (double the forecast), making this the ninth time in twelve months that employment levels have risen.
One segment of the economy to keep an eye on is those at the edge of, or who have already fallen off, the mortgage cliff. How over one million Aussie homeowners handle another potential rate hike, when switching from fixed rate mortgages around 2% to variable rates of 6-7%, will likely have a significant impact on the RBA’s next decision.
Inflation eases, driven by a steep decline in energy prices
New inflation data from the UK and EU also sent a positive signal to global financial markets that this period of high and sticky global inflation may be starting to ease.
The UK has finally broken the 8.7% annual inflation rate (that stuck in the year to April and May) with a 7.9% CPI reported in the twelve months to June. Primarily driven by the falling prices of motor fuel, the data has seen economists now pricing in a 5.75% cash rate peak from the Bank of England, down from the previously forecast 6%.
The EU also saw inflation drop from 6.1% to 5.5% in the year to June, and though slightly higher than the forecast 5.4%, is now at the lowest level since Russia invaded Ukraine.
These results come off the back of last week’s US inflation data release, which saw inflation ease substantially, dropping from 4% to 3% in the year to June. Despite the rising cost of shelter (including rent, housing insurance and lodging away from home costs) which increased by 7.8% over the past twelve months, the 16.7% ‘steep decline’ in the energy index has brought inflation down to its lowest level since March 2021.
Fixed income the “Stand out Asset Class” as rates reach the peak
The renewed sense of hope, stemming from easing inflationary pressures, suggests major global economies are now entering the end of the cash rate hiking cycle. If interest rates are, as leading economists suggest, reaching their peak, now could be the time for investors to lock in these higher yields.
According to the Australian Financial Review (AFR), $2.5 billion has flowed into fixed-income exchange traded funds (ETFs) in the first half of this year, and fixed income managed funds have seen $582million flow in in the June quarter alone.
As Jason Todd from Macquarie recently said “What you’re getting now if you’re thinking about buying bonds is a very appealing yield, but also capital protection against a growth slowdown.”
John Likos, Director of Investment Management at Bond Adviser, agrees.
“We haven’t seen yields like this since the GFC,” Likos told the AFR, “to me, [bonds are] the standout asset class at the moment.”
If you’d like to find out how you can generate a predictable flow of fixed income to help you navigate this period of high inflation, get in touch with an investment adviser here or give us a call on 1800 319 769.
The RBA gets a shake up, as Ellis and Bullock make history
This month has been an historic month in finance, as Michelle Bullock and Luci Ellis prepare to take two of the top jobs at the Reserve Bank of Australia (RBA) and Westpac respectively.
Luci Ellis, the RBA’s assistant governor, will take over from veteran Bill Evans (after thirty years at the helm) in January 2024 to become the first female chief economist at a big four bank.
Michelle Bullock has also made history as the first female appointed as the governor of the RBA, taking over from Philip Lowe, come September 18. Some suggest she’s joined at an opportune time and will be enjoying a “honeymoon period” as the RBA begins its next easing cycle.
These appointments have set in motion what could be the biggest shake up for the RBA since the 1990s, as the exit of Luci Ellis (Assistant Governor) and Philip Lowe (Governor) in 2023, and Guy Debelle (previous Deputy Governor) in 2022, signal a new era of leadership for Australia’s Central Bank.
What’s coming up next week:
- The Federal Open Market Committee (FOMC) will meet next Tuesday and Wednesday to decide if they’ll increase, reduce or hold the US federal funds rate, currently sitting between 5-5.25%.
- The annual rate of inflation (measured by the CPI), to the June quarter, will be released by the ABS here next Wednesday. This will inform the RBA’s next cash rate decision on the 1st August.
- Next Thursday, the European Central Bank (ECB) will also hold their monetary policy meeting, which could see another cash rate hike despite inflation easing to 5.5% in June.
*Data accurate as at 21.07.2023
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