This is how markets will put rate rises out of reach

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The RBA has steadfastly maintained its intentions to keep the cash rate at its current level until 2024, even in the face of high property prices, rallying share markets, and rising (though potentially transient) inflation. But despite some scepticism from markets earlier this year, Charlie Jamieson from Jamieson Coote Bonds expects them to stick to their word.

Like “a dog chasing its tail”, he expects markets to perform a sort of self-regulation. As conditions improve, investors will begin to price in a rate hike, which tightens conditions, thereby removing the need for a rate hike. A pattern we’ve already seen play out once this year.

In the full interview below, he discusses the major risks to his view on both the upside and the downside, and he explains what Australia’s recent COVID outbreak means for markets.


Transcript

Several players have suggested that rates will rise sooner than the RBA's target. Who should investors listen to and why?

The RBA has been very resolute that they won't be hiking rates anytime soon. I think that there are other things they can unwind in their accommodative manner. So at the moment, clearly that's the amount of QE that they're doing, and they're already suggesting that they want to taper that back. At the moment, they are buying $5 billion a week of government bonds and state government bonds, whilst the AOFM who issues government bonds on behalf of the government is issuing somewhere between one and $2 billion. So we've got what's called negative net supply, i.e. the central bank is buying far more bonds than the government is actually creating.

They already want to taper that back to $4 billion. That was a bit of a surprise to us given the COVID experiences that we're going through. So, there are lots of those things that they can tweak before we'd actually get to rate rises. I think that a bit like a dog chasing its tail around the room, we're going to see this with the US Federal Reserve. As they talk about restricting policy or removing liquidity, markets tend to cascade down and they tend to have a bit of a hissy fit around they love being in this accommodative way with low volatility, lots of liquidity being available.

As that's withdrawn, they can often move ahead of time and tighten financial conditions to the point that it makes the move unachievable. So essentially you're just sent chasing yourself around in a square because the economy heals enough to talk about it, the markets start to forward price the fact that that could actually occur in the economy. In doing so, they tighten financial conditions to the point where it's no longer deliverable. So you're going to get a few of these types of movements, where no doubt we'll have a discussion of this.

In Australia, when we open up for the summer, which we would all expect will occur, and we still believe COVID is a really seasonal episode. It doesn't mean it goes away altogether in the summer, but it doesn't like light and heat as much as it likes winter and dark and dank and damp, then we're going to have our own reopening trade here and everyone's going to try and race to go on holiday as fast as they can. The economy will pick up, the data will be great, and then we've got to think through what happens again next winter if we don't all hit the 80% vaccination threshold or whatever that might be.

So yeah, I just think rate rises are a long way away, we're very comfortable with that, but it won't stop people trying to talk about it and price it. Clearly the more hawks in the community, as soon as they see some good data will say, "Well, we've got to raise rates," but I really don't think that that will transpire.

Are there any risks to this view?

There are lots of things that can cause us to change outward that are a risk to the negative, and they're always somewhat unforeseeable. We're going through material changes with the way China is behaving with its corporates and the like, there's always that threat of tension. We've got a more kind of militant China, if you will, they seem to be more aggressive on the international stage, they're obvious ones. Other mutations to COVID. There's a South American version, we'll have some, no doubt, Greek alphabet letter for that soon enough. They're really obvious, the natural disaster, all that kind of stuff.

On the positive side, I guess hopefully this goes away. Hopefully, we can vaccinate it away and life can return to normal much faster. I think that the problem there is that governments haven't been as generous this time around. They were incredibly generous and that generosity was really uniform in 2020. That was irritating for a lot of taxpayers to see folks that were making record profits having received tonnes of JobKeeper paying out massive bonuses and dividends. That's just not going to occur this time around, so there isn't that excess cash that's been very generously bridged across from the government balance sheet into the private sector.

It's harder to see material accelerations into the positive, sadly. We think that the status quo is that the economy wasn't doing that well before COVID. It was bubbling along okay, but it was low growth, low inflation. That's likely what we'd go back to. We don't foresee an economy that is hugely accelerated, barring massive fiscal spending programmes. That might be the politics of the day, but it doesn't look like that at the moment. I think there still is some warrant and desire to get fiscal restraint back into some of these government spending programmes after being extraordinarily generous last year bridging that horrifying gap around the pandemic.

How has Australia's delta outbreak impacted your view on markets?

We did expect that we would have these rolling problems through the winter. We've talked about that all year. We've been kind of dour in our assessment of that. People haven't wanted to hear that, but it was very rational to us that the virus is absolutely perfect and humans are very imperfect, and the systems that we run really can be breached relatively easily. So for instance, hotel quarantine has been an obvious one. At the moment where Sydney has a lot of issues, we have 19,000 trucks a day coming into Victoria delivering things. So there are these permeations that can drop through the cracks, and we're going to continue to have these issues.

I do think that every time we release there isn't that same sense of you've just got to get out and spend every single cent that I can. Certainly, if you look at a lot of the anecdotal evidence down here, we're in lockdown number six at the moment, in every release people haven't been as consumptive, I guess, in terms of getting back out there and spending. So, we do think that there can be more economic scarring the longer this goes on. If it's short and sharp and it really does drive people underground for a while, well clearly they want to get out and spend some money that they might've saved in that process.

As I said, the government sustenance is not as generous this time around, so we don't think that we're going to get these big release episodes. That's not to say we won't have them, but they won't be as elevated as they've been previously. So we just think it elongates whatever the recovery was going to be, but there is a combination of things that if we can come out of this in 2022, achieving those vaccination targets, reopening the border to some degree, then things can normalise relatively quickly, but there will still be some scarring.

We think that that's going to require very low rates to allow everything to be funded pretty well. Certainly, a lot of the movement that we're seeing in things like property markets and the like, if you were to raise rates, would head back in the other direction just as quickly, and that would be incredibly restrictive on economic activity.

So there's no real desire for that to occur from our central planners, governments, central bankers. They don't want to see this become hugely problematic, they're trying to soothe us through to the other side. I think they're going to go a little slower than be too quick to take away that accommodated policy.

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