Analysis: Australia T-Note Yields Decline Set to Continue on Offshore Demand

• Published on
• 14 Aug 2020, 02:35 PM

By Sophia Rodrigues

Australian Treasury-Note auction yields have been declining at recent auctions due to a combination of reasons including expectations of a cut in the Reserve Bank cash rate target and ample liquidity, with scope for further fall as bidding becomes more aggressive.

Yields at the long-end in particular could fall more due to demand from new offshore buyers.

At the short-end, the weighted average yield has moved closer to the current cash rate of 0.13% as market finally prices these Notes in line with the price of “cash” but it could fall further as the gap between the lowest and highest yield narrows.

On Thursday, the weighted average issue yield on the 13 November 2020 Note fell to 0.1481%, compared with yield of 0.1554% last week, and 0.1630% and 0.1741% in the two weeks prior to that.

The fall in yield has been accompanied by a rise in coverage ratio which ranged between 4.7 times and 6.13 times. The high coverage was despite an increase in the amount of offer to A$2.0 billion from A$1.5 billion, which means in dollar terms bids at the last four auction were the highest on record, ranging between A$9.4 billion to A$12.2 billion.

The decline followed few weeks of strong bidding which had narrowed the gap between the lowest and highest accepted yield to 1bp, and then zero at the July 16 auction.

Since then, the gap started widening again as investors became more aggressive and pushed their bid further down to achieve success at the auction. This resulted in the lowest accepted yield dropping to as low as 13bps from the previous low of 17bps.

The highest accepted yield also fell but not to the same extent. In coming weeks, there is a potential for the gap to narrow to zero as bidding becomes more aggressive and investors lower their bid further.

One indicator of strong bidding is the decline in weighted average bid which fell to a record of 0.1714% at Thursday’s auction, down from 0.2066% at the July 16 auction.

TERM EXTENSION

A similar theme is also playing out at longer-term T-Note auctions. On Thursday, the weighted average issue yield on 23 April 2021 Note was 0.1930%, the lowest on record for a Note of around eight-month duration.  A month back on July 2, the same paper sold at a weighted average yield of 0.2503%.

While the lowest and highest accepted yield was the same as the auction of March Note a week before, this time the proportion of bids at the lowest yield was higher.

The weighted average bid was 0.2176% compared with 0.2276% at previous auction, again an indicator that bidding is getting tighter.

The demand has prompted the Australian Office of Financial Management to extend the Notes curve, announcing earlier Friday that it will auction A$1.0 billion of 25 June 2021 Note next week.

DEMAND GROWING WITH SUPPLY

The AOFM increased issuance of T-Notes in March when volatility in financial markets forced them to turn to short-term sources of funding. Since then, the outstanding amount of T-Notes have increased steadily as the AOFM raised A$3.0 billion to A$5.0 billion each week.

Currently, the outstanding amount stands at A$69.8 billion and in a recent speech AOFM CEO Rob Nicholl said this “still has some way to run.”

“Treasury Notes will continue to play an important role throughout this year and well into next year at the very least.  This is because the size of the funding tasks ahead mean that it will be next year at the earliest before we can noticeably begin to refinance Treasury Note volumes through bond issuance,” Nicholl said in the speech.

As T-Note volume increases, there is an expectation the market for Notes would become more liquid compared with previously when it was largely a “buy and hold” market. The increased liquidity could lead to narrowing of the spread between T-Notes and BBSW, thus supporting further fall in the yield.

Expectations that the Reserve Bank will reduce the cash rate target to 0.1% in coming months, is also an important factor supporting more demand and thus fall in T-Note yields.

--Contact: Sophia@centralbankintel.com