Have NZ rates gone too far? Pay NZ 5 Year Swap Tactically
After a brief sell-off after the February MPS, NZ rates have returned to near record low levels over the past month.
Outlook for Borrowers: Post-February MPS
At the February Monetary Policy Statement (MPS), the RBNZ reiterated that it expects to keep the OCR on hold for the foreseeable future. It pushed back its expected timing of the first rate hike by six months, to mid-2021.
Trade Idea: Sell NZGB 23s against 21s and 29s
• The belly of the NZ curve has significantly outperformed over the past few months, with 2s5s10s in swaps reaching post-GFC lows at -25bps.
• We see an opportunity to position for a reversal in NZGBs, selling 23s against 21s and 29s. Unlike swaps, the NZGB fly is positive carry and roll.
• We think the fly offers an asymmetric risk-reward profile from here and can perform in both bullish and bearish scenarios.
• With 2023s trading below the OCR we expect offshore investors to extend down the curve in search for yield.
• Investor holdings data suggests that NZ banks are reasonably well positioned for the upcoming Q1 high-grade maturities, meaning domestic demand for the belly of the curve may be more restrained going forward.
• We appreciate a NZGB fly isn’t for everyone. Investors may want to consider a 23s29s flattener, which should work in a ‘rolling flattening’ environment. Investors looking to position for a reversal in NZ rates may want to consider selling 2023s outright.
Outlook for Borrowers: January Interim Update
Since the November Borrowers Update, there have been substantial declines in wholesale fixed rates. Short-term wholesale fixed rates declined to their lowest levels on record a few weeks back, while longer-term fixed rates have fallen to within vicinity of record lows. The market has reverted to pricing an almost 50% chance of an OCR cut by the end of 2019.
NZ Breakevens – Reiterating The Value Case After NZ CPI
NZ breakevens (BEIs) reached multi-year lows earlier this year, with the 10 year NZ BEI hitting 1%. The narrowing in NZ BEIs has occurred amidst the rally in nominal bond yields over the past few months. BEIs remain highly directional with broader moves in rates.
NZ Rates Outlook: Scaling Back Our Bearish Expectations
In early November we made the medium-term case for paying NZ swaps. We thought the market would struggle to push out the timing of OCR hikes much further, NZ rates looked expensive on a cross-market basis and in relation to broader macro fundamentals, and the market was positioned long and vulnerable to re-pricing sharply higher in the event macro data made RBNZ hikes look more likely. Additionally, we saw upside risks to global rates and expected the market to ultimately revise up its Fed expectations, helping to push US yields higher.