Westpac: Have Long End Real Yields Peaked?

Westpac note that the “Australian 5y5y real yield has significantly outperformed the U.S., rising rapidly in recent months, with the AU/U.S. 5y5y real yield spread hitting its widest levels in around a decade, close to all-time record wides. That fact attracted significant interest from global investors last week, and, in line with current market discussions around how much of a terminal rate should be factored-in, the question is now whether the slight turn down in real yield represents an important turning point that will have implications for nominal yields, BEIs and cross market relativities. The narrowing in the AU/U.S. 5y5y real yield spread has not (yet) been matched by the nominal 10-Year spread. That is because the AU/U.S. BEI spread has moved to the upper end of the range that has prevailed over the past 2 years. The market is now increasingly more worried around the medium-term inflation outlook in Australia than it is in the U.S. Perhaps that is a function of the new government’s apparent focus on rising minimum wages significantly. Or perhaps it reflects the fear that the RBA could fall behind the curve by moving policy too slowly. Although the later risk would be largely erased by a 40bp hike in June, signalling the RBA’s intent. That in turn should provide one of the signals for performance in the nominal spread.”