The further consequences of lower interest rates
- As market interest rates in New Zealand decline further, additional consequences are revealing themselves. The theme of accelerating progression of longer-term trends continues.
- Wholesale interest rates continue to decline, with the Government’s PREFU announcement being the catalyst this week, due to a $10bln reduction in the size of the Government Stock issuance program for the 2020/21 fiscal year. The five-year New Zealand Government bond now trades at a negative yield, joining the one and two year maturities. 35% of outstanding nominal New Zealand Government Stock is now in the “negative rate” club.
- This week the Auckland Council issued the longest maturity bond in New Zealand for more than fifty years. The ability of a council to issue 30-year bonds in the domestic market is a notable milestone in the ongoing development of the New Zealand capital market.
Negative cash rates – The afterburner for asset prices
- The RBNZ’s stated preference for a negative OCR, should further stimulus be required, has encouraged the New Zealand market to expect negative wholesale cash interest rates next year
- This forward guidance on the potential for negative rates has led to large declines in retail interest rates and is having a powerful and positive impact on all asset prices
- This week a New Zealand government bond closed with a negative yield for the first time
Bond market takes note of RBNZ dovish shift
- We think the RBNZ reaction function has become more dovish with lower and flatter yield curves the primary goal in the face of persistent health-related downside economic risks.
- The Bank expanded its QE programme by more-than-expected last week from $60bn to $100bn and said it is prepared to implement a negative OCR alongside direct lending to retail banks at interest rates close to the OCR, if required.
- Interest rates have fallen in response, but NZ government bonds now look expensive versus their global peers and a sharp rise in breakeven inflation rates suggest that economic risks may lie in both directions.
Shadow banks shine light on mortgage deferrals
- Some of New Zealand’s non-bank mortgage lenders have provided detailed data that illustrates they appear well-positioned to weather an increase in non-performing loans when COVID-related loan deferrals expire
- Our various probes into the big banks indicate no cause for alarm, albeit we expect loss provisioning needs to rise and small to medium-sized enterprise (SME) lending trends need to be monitored
A bold bounce
- Many economies, including New Zealand, are re-opening and recovering faster than expected
- High growth rates are normal after such a large contraction in activity and the recovery, so far, is partial
- Ongoing policy stimulus is expected, given the residual uncertainty
Large Fiscal Spending Promises
- Budget 2020 revealed larger-than-expected potential spending in response to COVID-19.
- However, detail was lacking on many spending priorities.
- The accompanying larger bond issuance programme may prove difficult for the market to digest, placing upward pressure on government bond yields.
Will RBNZ QE help bridge the gap and how does it work?
What is the Reserve Bank of New Zealand’s (RBNZ’s) Quantitative Easing (QE) programme?After cutting the Official Cash Rate (OCR) by 75bp to 0.25% on March 16th, the RBNZ launched its Large Scale Asset Purchase (LSAP), or QE programme, just one week later. LSAP has a target to buy $30bn of government bonds over the next year; equivalent to 10% of Gross Domestic Product (GDP) and, at the time, almost 50% of outstanding bonds ma...READ MORE
QE in New Zealand – A rising tide lifts most boats
- The RBNZ’s quantitative easing (QE), Large Scale Asset Purchase (LSAP) programme has kicked off to a very promising start.
- In a tug-of-war between massive Reserve Bank purchases and NZ Treasury issuance, the Reserve Bank is winning.
- The New Zealand Local Government Authority raised $1.1billion in new bonds issued today – a record amount.
- Along with better COVID-19 news in New Zealand and a rebound in equities, we are starting to see better activity in high grade NZ credit.
- The market is hoping this will flow through to the broader credit market. Early signs are encouraging, but the jury is out on the poor cousins at the lower end of the credit spectrum.
How this could be different to the GFC
- Headlines around COVID-19 outside of Asia have continued to worsen and, coupled with the oil spat between Russia and Saudi Arabia, have sharply reduced investment sentiment and created pockets of financial stress.
- While sentiment is clearly downbeat, we need to recognise that there is still a wide range of outcomes that can occur.
- In the event COVID-19 does result in recession, note all recessions have been different.
- While this volatility is unsettling, it is important to put this sell-off in historical context.
Surprise cuts necessary, but not sufficient
- Overnight, the US Federal Reserve executed an out-of-cycle 50 basis point cut as financial conditions have deteriorated sharply over the last week.
- The closed circuit of declining confidence driving lower risk appetite, leading to increased financial stress and back to declining confidence, can be broken by government fiscal policy and monetary policy stimulus.
- We expect a concerted global effort across governments and central banks to support economic growth. New Zealand will be part of that effort.