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July RBA Monetary Policy decision - Q2 2021

The highly anticipated July RBA monetary policy decision saw the board largely maintain its current policy settings by keeping the April 2024 bond as the 3 Year Yield Target, maintaining the Cash Rate and Yield Target at 0.10% and paying 0% interest on Exchange Settlement Account (ESA) balances. The board also confirmed that while the Bond Purchase Program will end in September, bond purchases will continue until at least mid-November, albeit at a lower rate of $4 billion per week (down from the current $5 billion per week) in order to support inflation and employment objectives with a further review to be conducted in November. The board maintained that it will not increase the Cash Rate until inflation is sustainably within the 2-3% target range and that this condition is not expected to be met before 2024. 

Why is this significant?

The board announced in previous statements that it would consider whether to retain the April 2024 bond as the target bond for the 3 Year Yield Target or shift it to the November 2024 bond at the July meeting. Extending the 3 Year Yield Target to the November 2024 line would effectively signal to the market that a Cash Rate rise is not expected until late 2024/early 2025.

In light of better than expected economic data, including recent unemployment figures showing a decline in the unemployment rate to 5.1% in May (down from 7% a year prior), the RBA elected to retain the April 2024 bond as the Yield Target. This is in line with the Bank’s ‘central scenario for the economy’ which is that inflation will not be sustainably within the 2-3% target range before 2024.

This decision was also significant for the basket of bonds that underpin the ASX 3 Year Treasury Bond Futures contract with the December bond basket now free of any Yield Target bonds. 

How did the market react?

Going into the meeting, the market largely expected the 3 Year Yield Target to be retained on the April 24 bond given stronger than expected economic data. This is evidenced in the below chart that shows the widening spread between the April 24 and November 24 bond lines as the April 24 bond remains anchored to the 0.10% Yield Target.

The Bank Bill Futures and Cash Rate Futures yield curve steepened following the announcement with the market pricing in the first interest rate rise by late 2022, significantly earlier than the RBA’s 2024 projection. Following the RBA announcement, the yield on the 3 Year Bond Future increased by 7.5 basis points while the 3’s/10’s curve flattened to below 100bps (reaching 98.5bps) for the first time since February.

Interest Rate Futures Q2 2021

Conditions in the Interest Rates Futures market were calmer in Q2 as speculation around the future of the RBA’s 3 year Yield Target and QE subsided with the market awaiting the next announcement at the July board meeting. Overall Q2 rates futures volumes were 14% lower when compared to Q1 but 8% higher when compared to the same period last year (Q2 2020).

The mid part of the curve repriced in the second half of June following the strong May unemployment reading. This caused the 3’s 10’s curve to flatten as the market brought forward the timing of future interest rate hikes to late 2022. The 3’s 10’s curve went from 1.54% at the end of Q1 to 1.08% by the end of Q2 as 3 year yields increased. The Bank Bill Futures yield curve steepened in June also in response to the data with activity more than double that seen in April and May.

The AOFM confirmed in their 2021-2022 issuance update planned issuance of $130 billion in Treasury Bonds for FY 2021/2022 (as previously indicated) and that no new maturities will be established for the remainder of the 2021 calendar year. Regular issuance via tender is expected to occur most weeks.

In June, the RBA published a bulletin providing an initial assessment on the effect of the Bond Purchase Program on Government bond yields. The RBA estimates that overall the program has reduced yields on long term Treasury Bonds by 30 basis points. Access the bulletin here.

June 2021 Roll

  • 3 Year roll activity was 10% higher in June (943k) vs March (855k). Open Interest was 11% lower than March going into the roll, however market conditions were less volatile in both the physical and futures market in June, resulting in slightly higher roll volume.
  • 10 Year roll activity was 7.5% lower in June (1.66mln) vs March (1.79mln). 10 Year Open Interest was down 5% when compared with March, suggesting this contributed to the majority of the decline in roll volume.
  • The 3 and 10 Year Bond Futures roll traded in a 2.2 and 0.7 basis point range respectively (excluding the last Trading Day). The 10 Year range was much narrower than previous rolls which may have also contributed to lower volume with reduced opportunities to actively trade the roll.
  • The 5 Year Bond Future intra-commodity spread functionality was halted on the first day of the expiry due to a price display issue. The spread functionality was available from the 10th of June with over 90,000 contracts trading during the first full session with the narrower tick increments.
  • A total of 83,695 3 Year, 11,803 5 Year and 28,347 10 Year Bond Futures were taken to cash settlement in June vs 114,575, 4,204 and 45,840 respectively in March.
  • A total of 81,964 90 Day Bank Bill Futures contracts were taken to cash settlement in June, down from 93,957 in March.

OTC swap volumes

Global AUD OTC swap volumes continue to be lower overall driven by a significant decrease in shorter-date interest rate swap and OIS volumes as a result of the low rate environment and yield curve control.  ASX’s OTC Clearing service has recorded total notional cleared of A$619 billion in Q2 2021.

Growth in longer dated swaps: ASX has grown its activity and market share in longer dated interest rate swaps, with Weighted Average Maturity of ASX Cleared Interest Rate Swaps growing 55% to 2.5 years across the 12 month period ending June 2021 with market participants taking advantage of ASX’s lower total cost of clearing and the available cross-margining offsets (average 45% cross-margining benefit across users of ASX’s Margin Optimisation service).

Multilateral Compression: ASX will hold its first live multilateral compression cycle with TriOptima (part of CME Group) between 16 and 23 July 2021, with live execution on Thursday 22 July 2021.  ASX has invested in multilateral compression services to deliver significant cost and capital savings to users, along with operational risk reduction. 

A$619 billion

Total notional cleared in Q2 2021

2.5 years

Weighted Average Maturity of ASX Cleared OTC swaps

↑ 55% in the 12 months to June 2021

45%

Average Cross-Margining benefit across users of ASX’s Margin Optimisation Service.

Automated Futures vs OTC cross-margining 

Benchmarks

Daily eligible volumes, for the purpose of calculating BBSW using transactions, continue to increase over the month of June 2021 averaging $2.14 billion per day (compared to $1.27 billion for June 2020).  Just under 50% of the eligible volume has been concentrated in the 3-month tenor.

It’s worth highlighting that five out of the ten largest eligible volume days, where ASX has formed BBSW using the transaction based methodology, have occurred in May and June 2021.

The increase in daily eligible volumes looks to be driven by investor’s appetite for bank paper due to the pick-up in yield compared to that seen in competing funding market products. Treasury notes continue to be issued with a negative average weighted yield.  Also, Exchange Settled Accounts held at the RBA continue to grow at a significant rate (last reading $318 billion) reflecting investor’s desire to park their excess funds.

The increased daily eligible volume has resulted in on average 2.6 tenors out of 6 being calculated using the transaction based layer for May and June 2021.

Austraclear

Market repo instructions reminder

Participants are reminded that all Market Repo transactions need to be settled as Market Repo transactions in Austraclear by 22 November 2021.  Further details at https://www.asxonline.com/public/notices/2020/apr/0338.20.04.html and on Austraclear website under Market Repo updates.

Austraclear balance growth

Austraclear securities holdings were $2.667 trillion as at 30 June 2021, up 13% year on year. This was predominantly driven by a 22.5% increase in the longer term Fixed Income Securities balances around Government issuance.

Covid-19 impact on short term rates

The impact of Covid-19 related RBA monetary policy actions since March 2020 has seen a sharp and continued flattening of short term interest rate curves.