1y1y Vs. 2y1y - A Better Way To Play End Of RBA Tightening Cycle

Ahead of the April RBA Policy Meeting, we flagged the possibility for the 1-year swap Vs. 1-year swap rate 1 year forward (1y1y) to steepen if the RBA paused.

• Normally, the 1y Vs. 1y1y flattens into the last rate hike of the cycle and then steepens when the RBA pauses as the market shifts to expecting near-term rate cuts. However, these easing expectations often turn out to be premature, leading to a period of volatility for the 1y versus 1y1y until clearer signs of an RBA easing bias emerge.
• Since early April, the 1y versus 1y1y has followed this pattern precisely. In fact, the 1y versus 1y1y inverted to a new cycle low following the RBA's surprising 25bp rate hike yesterday.
• Given the likelihood of volatility for the 1y versus 1y1y rate around the end of the tightening cycle, we continue to suggest a 1y1y versus 2y1y steepener as a better play for when the RBA eventually shifts to an easing bias. Although this approach may offer less upside, it tends to be far less volatile.
• With the market currently pricing in 25bp of easing by April’24, a more favourable entry level for a 1y1y versus 2y1y steepener (currently around -25bp) could present itself, especially considering the RBA's explicit tightening bias.

Figure 1: Terminal Rate Expectations (%) & 1y1y Vs. 2y1y (%)

Source: Bloomberg / MNI - Market News