Dollar squeeze flattens yield curves
SINGAPORE: Bonds in Indonesia, India and Australia are witnessing a flattening of yield curves that is showcasing the challenges these formerly favoured markets face as dollar liquidity tightens.
While Indonesia rushed to raise interest rates to stem a rout in the rupiah, continued weakness in the currency amid an emerging-market rout deepened by the US-China trade war is fanning bets for further tightening. Aberdeen Standard Investments expects the country’s yield curve to remain flat in the near term.
However, India — which last month increased benchmark rates for the first time since 2014 — will probably see its curve steepening later in the year. The same is expected for Australia, with rising yields on US Treasuries seen driving its long-end borrowing costs higher.
The spread between Indonesia’s 2- and 10-year government yields shrank last week to as low as nine basis points, the narrowest in two years. The central bank has raised the benchmark policy rate by a full percentage point in the past two months as the rupiah slid to its weakest since October 2015. The yield spread was at 28 basis points last Friday, as the rupiah strengthened for the first time in four days.
“It will most likely stay relatively flat for the time being,’’ said Kenneth Akintewe, head of Asian sovereign debt at Aberdeen Standard in Singapore. “If there is persistent pressure on the currency, then they will most likely be forced into doing at least one or two more hikes.”
Once sentiment toward emerging markets improves and the rupiah starts to appreciate, investors would come back to the short end of the curve, especially as valuations are “very attractive”, he added.
India’s 10-year bonds now offer a spread of 26 basis points over two-year notes, down from 81 in December. Short-term yields have risen more in anticipation of policy tightening after surging oil prices contributed to faster consumer inflation. The Reserve Bank of India increased the benchmark rate in early June and set the stage for a gradual tightening cycle.
A government decision to borrow less from the debt market in the first half of the April-March fiscal year than it has done in previous periods helped slow an advance in benchmark 10-year yields.
A funding squeeze in Australia since the start of this year has led to a surge in short-term borrowing costs for local banks, which in turn has had a spillover effect on the front end of the curve. The spread between the 3- and 10-year bond yield has narrowed to 57 basis points from as high as 79 in February.
Australia’s 3-month bank-bill swap rate jumped by the most in eight years during the first half of 2018. Structural factors — such as falling deposit growth at domestic banks in times of steady credit demand — mean that elevated money-market rates are here to stay, according to TD Securities.