Australian bonds rebound following strong demand for U.S. 7-year note auction

The Australian government bonds rebounded Friday, following firmness in the United States Treasuries amid stronger demand in 7-year note auction and weak equities.

The yield on the benchmark 10-year Treasury note, which moves inversely to its price, fell 1-1/2 basis points to 2.77 percent, the yield on 15-year note dipped 2 basis points to 3.23 percent, while the yield on short-term 2-year slid 3-1/2 basis points to 1.91 percent by 03:40 GMT.

The Australian bonds have been closely following developments in the U.S. debt market. The benchmark 10-year bonds witnessed strong buying in the 7-year auction, dragging yields by 3 basis points to 2.47 percent. The USD28 billion 7-year note auction came in at 2.284 percent (51.18 percent award at high) with a bid-to-cover ratio of 2.54, non-comps of USD15.1 million, an indirect bid of 64.0 percent and a direct bid of 19.0 percent. In context, the 12-auction average for bid-to-cover is 2.50, for indirect is 61.8 percent and for directs is 12.5 percent.

Also, the U.S. equities moved downwards with the Dow index declining -13.90 points or -0.07 percent to 19819.78. Meanwhile, the S&P 500 was down -0.66 points or -0.03 percent to 2249.26. This came alongside downward pressure for crude prices with February crude decreasing -USD0.29 to USD53.77 per barrel.

On Tuesday, the minutes from the December board meeting demonstrated their range of concerns as well as highlighting the positives within current conditions. The board was rightly concerned about the potential harm to global economic growth if the US were to enact policies that restrict trade. The board lists this issue as one of uncertainty and one that will unfold over 2017. Trade is not a zero-sum game and misguided policy has the potential to harm living standards in the US as well as in its trading partners.

Despite these areas of softness, the board is still of the belief that inflation will return to the RBA’s target band over time. The RBA remains overly optimistic regarding economic activity and inflation. If activity and inflation remain below their forecasts ‘over time’ then there is a strong chance the RBA is not done cutting rates in this cycle.

However, we expect that the easier monetary policy has helped to bolster country’s demand, as the Reserve Bank of Australia reacted to sub-target inflation by cutting the official rate by 50 basis points during the last year to 1.50 percent. Additionally, the RBA’s policy stance in 2017 will completely depend on the developments in consumer inflation and in the event that the Australian dollar appreciates. The RBA's first monetary policy meeting for 2017 is scheduled to be held on Tuesday, February 7.

Lastly, we foresee that Treasury prices will keep drifting between small gains and losses in quiet trading session. Also, trading activity will resume after New Year celebrations, probably from the second week of January, 2017 as global market receives no more important data till then.

Meanwhile, the benchmark Australia's S&P/ASX 200 index traded 0.44 percent lower at 5,630.5 by 03:40 GMT. While at 03:00 GMT, the FxWirePro's Hourly Australian Dollar Strength Index stood neutral at +34.96 (higher than +75 represent a bullish trend).