From Bloxo today following his mentor Mr Rainbow:
RBA tactics and commentary The improvement in the local labour market and business conditions as well as improving global economic conditions and a recent shift in rhetoric at other central banks will all act to re-affirm the RBA’s view that it will not need to cut the cash rate further. Although the RBA’s commentary has suggested that the leverage-fuelled housing market boom had been the key reason that it is not considering further cuts, improvements in the local and global macro-economy over recent months would further bolster the central bank’s resolve. The RBA will also be keenly aware that central banks have gradually been turning more hawkish in recent weeks. The Federal Reserve has clearly suggested that it will begin to reduce its balance sheet soon and that it intends to continue to lift its policy rate. The ECB has given stronger hints that it may reduce its quantitative easing program soon. There is debate at the Bank of England, amongst the MPC members, about the possibility of a rate hike. Officials from the Bank of Canada and Norges Bank have turned more hawkish in recent weeks. We do not expect the RBA to introduce any explicit forward-guidance in its policy statement, although the tone of the commentary may very well be a little more upbeat than previously, particularly on the local labour market. We expect the RBA to point to forthcoming CPI numbers (2Q CPI is due to be published on 26 July) as the next key release to watch. In our view, once the RBA has clear signs that wages growth is past its trough it will not be long before it will seek to move towards a more normal cash rate setting. Our central case is for a hike in 1Q18 (not quite yet, but sooner than the market is currently pricing).
Fixed income strategy: The next cab off the rank? A growing theme in developed market central bank communication has been a boldness in signalling the removal of accommodative monetary policy, with softening headline inflation and weak wage growth downplayed. The Bank of Canada’s recent communication shift was particularly interesting given that Canada shares many similar macro attributes with Australia, meaning they tend to be cyclically synchronised. That front-end pricing has moved to opposite extremes presents an attractive cross-market opportunity, in our view. Even if the RBA is not the “next cab off the rank”, we believe the risk-reward favours positioning for higher AUD front-end risk premium. Current OIS implies a broadly flat path for the cash rate over the next 12 months, while only Japan and Switzerland have a lower spread between 2Y IRS and the 3m fixing among the G10 countries. Yet, the RBA has set a very high bar for cuts and we suspect the central bank has a strong desire to remove its accommodative policy if/when the data allows. Recent tightening of the labour market (the unemployment rate fell to 5.5% in May – the lowest since 2013) should embolden the hawks.
