Bond markets outperformed equity last week as the Banks and BHP weighed heavily on the ASX200 while the yield curve continued its trajectory lower in anticipation of further monetary policy action. Regulated bank capital continues to be an active market with Westpac announcing the completion of a $525 million wholesale offering of Basel III compliant Tier 2 notes priced at 3 month BBSW + 3.10%.  This compares to a similar offering from ANZ which priced its Tier 2 notes at 3 month BBSW +2.70% on 17th February 2016. The Westpac deal appears to have been issued at a slight premium to secondary market pricing. For retail investors the closest comparable security is Westpac’s ASX listed Tier 2 notes (ASX Code: WBCHB) which closed on Friday with a trading margin of 2.75% per annum.   In the Tier 1 hybrid market the Commonwealth Bank of Australia (CBA) set the PERLS VIII margin at 5.20% per annum (low end of the 5.20% – 5.35% range) giving an initial yield of ~7.50%. The CBA allocated $910 million of PERLS VIII on a firm basis under the Broker Firm Offer with the final issue size now dependent upon applications received under the Reinvestment (for eligible PERLS III Holders) and Security Holder Offers. It is still unclear on the take-up rate by PERLS III holders ($1.166 billion on issue) which means the final issue size for PERLS VIII is still uncertain. Since the deal was announced the PERLS VII margin initially narrowed from a margin of 5.80% over swap to 5.20% before ending last week at 5.45%.   In terms of senior debt the past 3 months have proven the resilience of short duration investments from the four major banks. Trading margins have widened by ~0.15 – 0.25% (3-7 year maturities) despite negative equity returns of between -11% and -17% over the same period. However, over the past week the price of senior debt seems to have stabilised despite the negative press regarding the mortgage books.   Click below for Interactive Charts Chart 1: Bloomberg AUSBond Composite Index (Monthly) Chart 2: Bonds vs Equities 2014/15 (Monthly) Chart 3: Average Cost of New Bank Debt (US vs Australia)   Interest Rates

The RBA meets tomorrow and are expected to remain on hold with an easing bias. The interest rate market has moved ahead of the RBA (pricing in two cuts over the next 12 months) and are waiting for them to catch up. The Australian Financial Review is reporting that the Australian government is working towards an early (April) tax statement ahead of its May budget and potentially planning a double dissolution shortly thereafter. Therefore, the window for the RBA to ease monetary policy without being seen to be politically motivated is closing. GDP data for Q4 2015 is released on Wednesday which should provide some insight into how the services economy is performing with a currency range bound between 69 – 70 cents.   In February 2015, the 10-year bond yield hit an all-time low of 2.27% before lifting to highs near 3.15% on 11 June 2015. In early November 2015 there was a progressive increase in yield from ~2.60% to a high of 2.99%. However, since mid-December the flight to quality has meant the 10-year yield has given back the changes in Q4 2015 and on 11 February 2016 hit a 6 month low of 2.37% (current 2.36%). The 3-year bond has followed a similar pattern and broke out of its recent yield range (1.90 – 2.1%) in November/December 2015 reaching a high of 2.18% on 7 December 2015. It has now retraced back to 1.70%. On 26 February 2016, the ASX 30 Day Interbank Cash Rate Futures March 2016 contract was trading at 98.02 indicating a 6% expectation of an interest rate decrease to 1.75% at the next RBA Board meeting (down from 8% previous week).  

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