Deposit Review May Term Deposits Simon Fletcher Head of Research (+61) 3 9670 8615 simon.fletcher@bondadviser.com.au Ethan Xing Quantitative Analyst (+61) 3 9670 8615 ethan.xing@bondadviser.com.au With the US-China trade war fears fading away, the month of May became mostly a month of tit-for-tats between the US and North Korea with the possibility of a summit remaining quite high. US 10-year yields in response, dropped back below the important 3% level at the end of the month and credit fundamentals remain solid. The domestic market continues to see the Royal Commission examining Australian banks SME and Franchise loan sectors. Tighter lending criteria will likely be put in place going forward as yet more misconduct is revealed. The domestic housing market saw the eight capital cities dwelling prices fall 0.3% (in average weighted terms) in the month, marking the sixth monthly fall in a row but not many commentators are pressing the panic button yet. In June s meeting, the RBA again held the official cash rate unchanged at (20 months in a row) and we note the increasing possibility of a rate hike in the medium term with inflation and employment rebounding. During the period, the swap curve saw all tenors broadly drift upwards but with Term Deposit (TD) offerings remaining unchanged, there was a tightening in the TD spread over BBSW. Figure 1. Term Deposit Over Relevant BBSW: May vs April 0.30% 0.20% Change in May April 0.10% -0.40% - Source: RBA, BondAdviser 1M 3M 6M 1Y 3Y Average 'Special' Background on Term Deposits Deposits offer investors a range of benefits over other types of investments: The diverse offering in Australia allows for investment flexibility. Depositors are able to choose their investment term and deposit type, effecting a view on interest rates. Deposits offer certainty of returns. The tenor of deposit and rate on the transaction is unchanged for the duration of the investment. This avoids any market volatility. For amounts up to $250,000, deposits are currently guaranteed by the federal government. As a result, credit risk is minimal. Key negatives to term deposits include: Interest Rate Risk the risk that a subsequent market interest rate is higher than the rate locked-in on the purchased TD. Liquidity risk TDs can only be liquidated early with the issuing institution (i.e. there is no open market) and will usually result in a reduction in the effective interest rate for the term. This also typically required 31 days notice. TDs offer no capital upside, which can occur in fixed-rate bonds and hybrids. Income from TDs is fully taxable at the investor s marginal tax rate (i.e. no franking). 1 Bond Adviser Pty Ltd
Jan 2010 May 2010 Sep 2010 Jan 2011 May 2011 Sep 2011 Jan 2012 May 2012 Sep 2012 Jan 2013 May 2013 Sep 2013 Jan 2014 May 2014 Sep 2014 Jan 2015 May 2015 Sep 2015 Jan 2016 May 2016 Sep 2016 Jan May Sep Jan May Jan 2010 May 2010 Sep 2010 Jan 2011 May 2011 Sep 2011 Jan 2012 May 2012 Sep 2012 Jan 2013 May 2013 Sep 2013 Jan 2014 May 2014 Sep 2014 Jan 2015 May 2015 Aug 2015 Dec 2015 Apr 2016 Aug 2016 Dec 2016 Apr Aug Dec Apr Monthly Review: Term Deposits The Rising US Interest-rate Environment On 22 March, the Fed lifted US interest rates from to 1.75%, echoing the US Government s growing confidence in economic growth on the back of the republican tax reform and increased government spending, but this did not have a material effect on market as this move was already priced in. Notably though, this 0.25% uplift placed the Fed funds rate ahead of the domestic cash rate () for the first time in 18 years, arguably heralding that the differential between Australian and US rates will enter a prolonged negative era (Figure 2). Figure 2. Historical Fed rate vs Australian cash rate (since 2010) 5.00% 4.00% US Fed rate US exceeding AU AU Cash rate Source: Bloomberg, BondAdviser In comparison to US, the domestic regulator RBA has consistently retained a low rate with the belief that the Australian economy is not yet sufficiently recovered to absorb rate increases. Such a divergence in interest rate policies will result in both adverse and beneficial impacts on Australia. Figure 3. AUD/USD Exchange Rate Since 2010 1.2 1.1 1 0.9 0.8 0.7 0.6 From a trade perspective, US dollars, as the most widely-adopted currency worldwide, could export volatility to other economies including Australia. That is to say, the strengthening US dollar, vindicated by a tightening Federal Reserve could result in a decline in US export activities due to higher costs (for oversea importers), but conversely boost demand for overseas (native) markets. On the other hand, a weakening AUD could possibly place more pressure on domestic commodity consumption given the increasing conversion costs (from USD to AUD) of imports (especially for the two largest - crude oil and petroleum). 2 Bond Adviser Pty Ltd In terms of fixed-income investments, a rate spike could significantly hamper investors potential upside gains. In comparison to the US rising interest rate environment (where another two or three raises are expected to happen this year), Australia s low-yielding but steady cash rate provides some capital protection for overseas investors, which should contribute to the domestic credit market gaining more popularity going forward. In addition, cheaper funding costs in Australia may attract more issuers and provide fixed-income investors with a larger pool to achieve better diversification.
Market Commentary: ANZ Lowered TD Offerings The swap curve continued its upward trend over the last month with the 1M BBSW, 1Y swap and 3Y swap rising 0.06%, 0.01% and 0.05% respectively, despite a small drop of 0.01% in 6M BBSW. To us, this indicates outright higher funding costs for domestic banks but also some uncertain impact from the Royal Commission. With their broadly sound funding positions, domestic banks appear quite happy to maintain a conservative strategy for TDs in May. The domestic TD market was quite placid over the month and specifically, CBA and WBC both left their TD offerings on hold at (3M), 2.05% (6M) and 2.30% (12M) respectively. NAB in contrast reduced its medium-term TD rate by 0.25% to 2.05% but remains passive in adjusting rates for other terms. ANZ made a second 0.10% cut in TD offerings across all tenors, following the same move in the previous month (Figure 4). Figure 4. ANZ TD Offerings from June to May 1.90% 1.80% short-term medium-term long-term 1.70% 1.60% 1.40% 1.30% 1.20% 1.10% Jun Jul Aug Sep Source: Company Reports, BondAdviser Although the Fed rate increased in March and two or three more hikes should occur over the rest of the year, this does not seem to trouble the RBA s hold mentality at all. We view the key factors dragging on the cash rate in short term as including the underperforming CPI, high household debt level, easing but still restrictive housing markets and stagnant wage growth. Clearly, until the economy recovers over the medium or long term, the cash rate should remain locked at. Comparing Term Deposit Rates Oct Nov Dec Jan Feb Mar Apr May As mentioned, ANZ made a 0.10% TD reduction across its offered tenors, further placing the bank in a more disadvantageous position compared to its major peers. However, it s Advance Notice Term Deposit continues to provide comparable returns to its major peers, but does require 31 days notice prior to withdrawal. NAB decreased its medium-term offering by 0.25%, losing its most favourable market position and coming into line with CBA and WBC s 2.05% offering in the same tenor. The long-term TD market is dominated by NAB s 2.40% offerings, 0.10% ahead of CBA and WBC. The regional banks TDs continue to provide extra yield to the majors with BOQ remaining in a favourable position and offering some substantial premia. 3 Bond Adviser Pty Ltd
Figure 5. Monthly Change in Short Term TD Rates -0.05% -0.15% Figure 6. Short Term TD Deposit Rates 1.35% - - Figure 7. Monthly Change in Medium Term TD Rates 0.20% 0.15% 0.10% 0.05% -0.05% -0.15% 0.15% Figure 8. Medium Term TD Deposit Rates - - 2.05% 2.05% 2.05% 2.10% 2.55% Figure 9. Monthly Change in Long Term TD Rates -0.02% -0.04% -0.06% -0.08% -0.12% Figure 10. Long Term TD Deposit Rates - - 2.30% 2.40% 2.30% 2.30% 2.70% Figure 11. Monthly Change in Online Saver Rates 10 8 6 4 2 ANZ CBA NAB WBC Figure 12. Online Saver Rates 2.55% 2.51% 2.51% 1.90% 1.10% 0.80% 0.80% ANZ CBA NAB WBC Saver Variable Rate Bonus Interest Saver Variable Rate Bonus Interest Source: BondAdviser, Company Reports Note: Short Term ~3 Months, Medium Term ~6 Months, Long Term ~12 Months. 4 Bond Adviser Pty Ltd
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