September 2019: A Month in Review
Despite central banks remaining in monetary easing mode (lowering interest rates), bonds in major markets rose in yield. This produced the first negative monthly return for both the Composite and Credit Indices since September 2018. This negative performance occurred in a month of continued geopolitical stress and trade wars. Oil spiked to $62 per barrel after the attack on the Saudi oil facility.
Review of the US Market
The US 10-year bond ended the month at 1.66% -16 bps higher than the August month end of 1.50%. Below is a 5-year chart for the benchmark 10 Year US Government Bond. This illustrates how the market fell sharply from a yield of 2% towards the 2016 low 0f 1.35%
There was a similar movement in 2-year US Government bonds which also increased in yield by 12 bps to 1.62%.
These increases in yield occurred even though the Federal Reserve lowered the overnight interest rate. The Federal Reserve upper target rate of 2.00% is still above the yield of the 2 Year government bond.
The chart below illustrates the current shape of the US yield curve.
Review of the Australian Market
The 10-year Australian bond finished 13 bps higher in yield at 1.02% with resulting lower prices.
The 3-year government bond’s yield rose (prices lower) by 7 bps to 0.74%.
On the 1st October the RBA moved as expected by cutting its official interest rate again to 0.75% The market at month end was pricing the RBA cash rate at 0.65% in DEC 2019 and 0.47% in JUN 2020.
It appears that market is now pricing the terminal cash rate or the rate the RBA will stop easing at around 0.50%.
The chart below indicates the forward pricing of the RBA rate.
What about corporate bonds and BBSW?
Corporate bonds marginally outperformed their relevant Australian government bonds. This small out-performance is generally due to the fact that they have higher yields than their equivalent government bonds so the carry is higher.
3-month BBSW was slightly lower, moving from 0.97%% to 0.95%.
The Bloomberg AusBond Composite Index for all maturities (the common benchmark) produced a negative return of 0.49% for the month reflecting higher yields (lower prices).
The Treasury Index (government bonds) for all maturities, which is the single largest contributor to the Composite Index, produced a negative return of 0.67%. This sector under-performed the Composite Index due to the contribution of longer dated government bonds whose price is more sensitive to interest rate changes due to their longer maturity.
The Credit Index (corporate bonds) for all maturities produced a negative return of 0.13%. The Credit Index has a much smaller number of longer dated bonds than the government bond index.
When comparing corporate bonds to government bonds of the same maturity (3 to 5 years), we see the Government Bond Index returned -0.19% while the corporate bond index (Credit Index) returned -0.10%.
The best performing sub index was the Credit Index (corporate bonds) 0-3 year maturity index with a return of 0.05%.