Australian Rate Moves: How to Position Your Bond Portfolio

Rate cuts may arrive in 2025, aligning the Reserve Bank of Australia (RBA) with global peers. Investors should not wait for the RBA action but assess yields and purchase on bond market ‘dips’.

The RBA may be among the last developed market central banks to adopt a lower policy rate setting. The European Central Bank (ECB) lead the way in June 2024, Bank of New Zealand (BNZ) moved in July and the US Federal Reserve (Fed) surprised markets with a 50bps cut in September.

What does this mean for investors? Let’s explore another market where the central bank has pivoted.

What Lessons Can be Learned from the US?

In August and September this year, we have been encouraging investors of US Treasuries not to wait for the Fed to increase their allocations. For those who waited for the Fed to cut before investing in the bond market, the returns have been negative. This is because markets often price in expectations of rate changes in advance, and central bank policy is only one part of the equation. By the time events occur, markets have often moved on to the next thing on the horizon.

The second reason is that broad US Treasury bond exposures comprise a blend of maturities. Policy rates mostly impact the short end of the yield curve, whereas other factors like economic health, debt levels, and sovereign ratings can impact medium- and long-term rates. The chart below shows the 3-month yield dropped in the month preceding the September pivot to reflect the anticipated cuts in the policy rate, while other yields increased. As attention shifted to the US presidential election, expected inflation and fiscally expansionary policies likely pushed longer-term yields to rise.

The lesson is that forward looking yields provide better insights than assessing the central bank adjustments to their policy when seeking pockets of value.

The Opportunity in Australia

Turning to Australian rates, yields are currently at relative highs since the RBA began hiking policy rates. The only other time yields were this attractive was in Q4 2023. To monitor these yield movements, check the State Street Global Advisors website for yield information on our fixed income exposures. The fund average yield is a weighted average across the bonds in the portfolio, reflecting the full yield curve exposure.

Since Australian government bonds, issued by the Commonwealth, it’s states and territories, have substantial issuance sizes compared to other bond segments like corporates, rates influence both Australian government and Australian composite bonds significantly. The key difference is that corporate exposures may enhance yield while adding diversification. In our view, both bond segments are worth considering now and in 2025.