Tim Hext’s weekly bond, income and defensive strategies note

NAB this week broke the Big Four banks bond drought. Tim Hext explains what it means for investors

WE WROTE last week about Covid and vaccination rates leading to a potential re-opening in late October and November. 

But at the end of this week markets still seemed lost in lockdown gloom as worsening daily headlines continued to drown out positive news about accelerating vaccination rates.

After a snap lockdown in New Zealand, we even saw Reserve Bank governor Adrian Orr change his mind at the last minute, deciding not to hike rates. 

Perhaps he thought it just wasn’t a good look — basing medium-term monetary policy on day-to-day news seems reactionary. 

But enough of that. Onto other issues.

NAB breaks Big Four banks bond drought

This week NAB returned to Senior AUD Term Funding Markets with a new 5-year bond issue. It was the first such deal by one of the Australian majors since January 2020. The deal was $2.75 billion at 41 over. 

Of course the drought was caused by the Term Funding Facility (TFF) — where the RBA gifted some $200 billion of 3-year money to banks at 0.1% to drive down term rates and mortgage rates.

It worked as a public policy driving down mortgage rates. Bank margins crept slightly higher, but most of the savings ended up in lower mortgage rates, supersizing the housing price boom to levels that are nothing short of startling. 

We’ll save the longer-term implications of that for another day.

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Pendal’s Income and Fixed Interest funds

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The extra money from the TFF of course ends up back at the RBA in the Exchange Settlement Account — earning zero since public money given to the private sector is surplus to the private sector. 

It does mean banks want fewer savers but look more aggressively for borrowers. 

Bank treasuries will need to manage the maturity of the TFF, which takes place largely in two blocks in September 2023 and June 2024. Banks will want to begin terming out their private sector debt to dates beyond this well in advance. 

This week’s NAB is the first of many to come. 

For now, pent-up demand for bank paper is experiencing strong support. But we expect spreads to drift wider over time. We see more value for now in the Tier 2 bank market.

Outlook for rates

For those term deposit holders and cash account holders there is little good news on the horizon. 

For the next 12 months at least, interest rates will be next to nothing. 

We see hope of RBA rises in 2023 and by then maybe even strong credit growth in the private sector. 

The bad news is interest rates will be below inflation for years to come, effectively sending the purchasing power of savers backwards. 

Oh well, maybe they own a house to more than offset it.