NZ bonds rally in June quarter as interest rates seen lower for longer

Friday 1st July 2016

New Zealand bonds rallied in the second quarter as investors anticipated central banks keeping interest rates lower for longer in the face of events such as the UK's vote to exit the European Union.

The yield on the benchmark 10-year government bond fell to 2.385 percent as at June 30 from 2.98 percent on March 31, having touched an all-time low 2.3 percent in the wake of the Brexit. Yields on corporate debt also fell, with Fonterra Cooperative Group's 2021 bonds down 25 basis points to 3.73 percent over the quarter. Fletcher Building's 2020 bond declined 15 basis points to 4.3 percent, and Auckland International Airport's 2021 bond fell 32 basis points to 3.25 percent. Bond yields fall as their price rises.

The Brexit vote heightened expectations central banks will cut interest rates, with Federal Reserve chair Janet Yellen telling policymakers she was watching the vote closely just days before the referendum, and European Central Bank head Mario Draghi also told legislators he was prepared for such an event in the lead-up to the vote. Yesterday, Bank of England governor Mark Carney said he will probably have to stimulate the economy over the Northern Hemisphere summer.

Christian Hawkesby, head of fixed interest at Harbour Asset Management, said the capital gain in bonds was more pronounced for longer-dated debt as investors prepare for central banks to either put off planned increases to their benchmark rates, or inject more stimulus through rate cuts or quantitative easing.

"All risk markets have suffered, at least momentarily, post-Brexit - equity prices were down sharply and that went through part of the credit markets also," Hawkesby said. "Returns on corporate bonds haven't been as strong as government bonds."

The new tone from global central banks means there's more pressure on New Zealand's Reserve Bank to cut the official cash rate at next month's policy review, he said.

The heightened volatility in markets saw the Chicago Board Options Exchange's Volatility Index, known as Wall Street's 'fear gauge', spike to a four-month high in the wake of the Brexit vote, and investors scaled back their activity, leaving some markets illiquid.

Those conditions saw Auckland Council and Kiwi Property Group cancel planned bond sales, with both citing the market volatility as the reason for them backing out.

Debt markets have been a favourite way for companies to raise funds this year as record-low interest rates provide cheaper access to capital, which Hawkesby said is one of the mechanisms central banks use to stimulate economic activity.

BusinessDesk.co.nz

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