Tim Hext: RBA in final preparation for take off

Where will interest rates be at the end of 2022 and 2023? Here’s a view from Pendal’s head of government bond strategies TIM HEXT

THE Reserve Bank is keen to make its recent dramatic about-turn on rates look like an evolution — and not the revolution it is.

This week’s statement edged us a little closer to a June hike. The RBA dropped its usual reference to being “patient” — and its commitment to highly accommodative monetary policy.

The statement finished with:

“Over coming months, important additional evidence will be available to the Board on both inflation and the evolution of labour costs.

“The Board will assess this and other incoming information as its sets policy to support full employment in Australia and inflation outcomes consistent with the target.”

We get Q1 CPI on April 27, which will likely be around 1.7% and 1.2% underlying.

We also get Q1 Wages Price Index on May 18. This will be less spectacular but will not stop a June tightening.

Meanwhile there is a good chance one of the next few unemployment numbers will be sub 4%.

The RBA will therefore be able to say in May that inflation is sustainably within its band in the medium term and can tighten in June.

A May hike is not impossible. But with a federal election and the desire to evolve the narrative June is odds on.

News to some

Many (including us) expected all this. But judging by yet another sell-off of around 0.15% it was news to some.

Three-year physical bonds (as measured by the April 2025 Commonwealth Bond) are now nudging 2.5%. 

Ten-years are nearly at 3% and with a large new syndication of a 2033 Commonwealth Bond next week will likely break 3%.

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The short end is now predicting cash rates to peak around 3.5% in early 2024.

If mortgage holders were aware of this impending doom house prices would be off 10% tomorrow.

Mortgage brokers I’ve spoken with are telling clients rates shouldn’t go up by more than 1% to 1.5%.

The average size of a new mortgage is now well over $600,000 – so an extra $20,000 a year in interest is coming borrowers’ way if markets are correct.

We still think a 2.5% cash rate is neutral.

Inflation is currently peaking. Although it will remain elevated into 2023 we think by late next year the RBA won’t likely need to push cash rates higher than 2.5%.

Rates should finish 2022 around 1.25% and 2023 around 2.5%.

Therefore markets are now cheap in the medium term.

However with the US Federal Reserve determined to keep pushing its rates higher – and ramping up the hawkish rhetoric – all markets globally will likely remain under pressure.

For those of us concerned with the short term as well as the medium term, the challenge will be to balance these two in the months ahead.

About Tim Hext and Pendal’s Income & Fixed Interest boutique

Tim Hext is a Pendal portfolio manager and head of government bond strategies in our Income and Fixed Interest team.

Tim has extensive experience in banking, financial markets and funding including senior positions with NSW Treasury Corporation (TCorp), Westpac Treasury, Commonwealth Bank of Australia, Deutsche Bank, Bain & Co and Swiss Bank Corporation.

Pendal’s Income and Fixed Interest boutique is one of the most experienced and well-regarded fixed income teams in Australia.

The team won Lonsec’s Active Fixed Income Fund of the Year award in 2021 and Zenith’s Australian Fixed Interest award in 2020.

Find out more about Pendal’s fixed interest strategies here

About Pendal Group

Pendal is a global investment management business focused on delivering superior investment returns for our clients through active management.

In 2023, Pendal became part of Perpetual Limited (ASX:PPT), bringing together two of Australia’s most respected active asset management brands to create a global leader in multi-boutique asset management with autonomous, world-class investment capabilities and a growing leadership position in ESG.

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