February 2019: Another month of Risk On but bonds make further gains
With continued gains in equity markets (S&P 500 up 2.97% and ASX 200 up 5.19%), Australian bonds produced further gains. This is after a strong performance in December 2018 and January 2019.
Australia has continued its own narrative for bond bulls (those expecting lower yields and higher prices). They remain firmly in control. As the RBA revised down its own growth forecasts, some commentators have predicted two rate cuts in 2019. So, even though US bond yields increased, Australian bond yields decreased.
Review of the US Market
The US 10-year bond ended the month at 2.72%, up from the January month end of 2.63%, with resulting lower prices. This is a 9bp increase in yield.
There was a smaller movement in 2-year US government bonds which also rose in yield by 6bps to 2.51%. The rise in yield creates lower prices which can produce negative returns for investors.
Review of the Australian Market
The 10-year Australian bond finished 14bps lower in yield at 2.10% with prices moving higher.
The 3-year government bond’s yield also fell (prices higher) by 12bps to 1.63%.
What about corporate bonds and BBSW?
Corporate bonds also benefited from tightening credit spreads. This is the premium required to hold a corporate bond instead of a government bond. Therefore, corporate credit Indices outperformed government bond indices with similar maturities.
3-month BBSW was significantly lower moving from 2.07% to 1.87%.
Source Bloomberg and Australian Corporate Bond Company
The Bloomberg AusBond Composite Index for all maturities (the common benchmark) produced a positive return of 0.94% for the month reflecting lower yields (higher prices).
The Treasury Index (government bonds) for all maturities, which is the single largest contributor to the Composite Index, produced a positive return of 1.03%. This outperformed the Composite Index due to the contribution of longer dated government bonds with their higher modified duration.
The Credit Index (corporate bonds) for all maturities produced a smaller positive return of 0.87%. When comparing corporate bonds to government bonds of the same maturity (3 – 5 years), we see the Government Bond Index returned 0.57% while the corporate bond index (Credit Index) returned 0.92%. This reflects the fact that credit spreads tightened during the month.
The best performing sub index was 10+ maturity indices. This sub index has the largest exposure to interest rate risk due to the long dated securities included in the index.