Tim Hext: The RBA’s playing catch up — but it’s still lagging

Extraordinary monetary policy is ending. TIM HEXT explains what it means for investors

THE RBA’s abandonment of Yield Curve Control (YCC) — capping yields on three-year and shorter bonds to a target rate — was confirmed in its post-meeting statement, released half an hour before the Melbourne Cup.

Extraordinary monetary policy is in decline.

The RBA’s Term Funding Facility — which provided three-year funds to banks at 0.1% to help lower rates in the real economy — was closed in June and will wind down into 2023.

Quantitative Easing (QE) was reduced from $5 billion to $4 billion a week in August.

Now YCC is terminated. This leaves QE, to be reviewed in February, as the last extraordinary measure.

QE in Australia has always been more about matching the QE offshore central banks are doing to stop higher rates here and limit a higher currency. 

The RBA will be comfortable with current AUD levels. It will be looking to the US Federal Reserve’s tapering plans announced shortly before deciding whether to abandon or merely reduce QE in February.

We think abandonment is more likely.

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What next for rates?

The bigger question for the real economy is when do they actually hike rates?

Markets are pricing 1% by the end of 2022. Dr Lowe, in a post-meeting webinar, said hikes were highly unlikely in 2022. He was still thinking 2024 as likely, though he acknowledged 2023 was now live.

Normally such guidance would see everyone jump on the apparent cheapness of short rates. After all, the RBA sets the cash rate levels.

Right now though, the RBA seems to be playing catchup and markets think another “mark to market” will be needed next year. Their forecasting credibility is in question.

It all centres around the inflation and wages outlook.

Until this week the RBA was forecasting 1.5% underlying CPI by June 2022. There was a near-record upgrade to 2.25% this week.

This was a huge miss. While globally things are changing fast, it’s fair to say previous forecasts were not their finest hour. A decade of overestimating inflation seems to have given way to constant underestimation.

Our view for the past six months has been a first hike in February 2023 with cash rates peaking at 1.25% in late 2023.

We held this view through lockdown and for now maintain this view.

Market pricing means our bias to short duration has changed to a bias for long duration for now.

But we think inflation will be higher and more persistent than the RBA does, so we’ll happily turn neutral or even bearish should rates rally too far in November.  

Dr Lowe may think late 2022 rate hikes are highly unlikely, but it would be a mistake to price them out.

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

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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