In the interest of three

The likely direction of interest rates is something always in the minds of investors and home buyers. The Reserve Bank board recently kept rates on hold, but the market is now telling us something different.

The likely direction of interest rates is something always in the minds of investors and home buyers. The Reserve Bank board recently kept rates on hold, but the market is now telling us something different.

This week's chart, produced by Mark Umansky, a financial technician and councillor with the Australian Technical Analysts Association, looks at the question with reference to three markets: the futures contracts for the 90-day bank bill, and the Australian government three- and 10-year bonds traded on the Australian Securities Exchange.

Following all three traded products provides an added insight into the views of traders in the professional market. The 90-day bill contract represents the short term and the three- and 10-year bond contracts the medium and long term.

We learn about what the market thinks on the direction of interest rates by looking at which direction the three futures contracts are heading. A look at the chart shows how the different instruments behave in the market according to the investment duration they represent.

The 10-year price fell consistently from mid-2012 until the second quarter of this year, while the three-year bond price fell until the beginning of 2013. This means that despite cash rates falling, the longer dated instruments were predicting rate rises by looking ahead to their various time frames.

The 90-day bank bill rose for a time, fell a little as Reserve Bank rate cuts intensified, then rose again. Falling prices for bond and bank-bill futures implies rising interest-rate predictions as prices for fixed-income securities move inversely with interest rates.

Umansky observes that when two of the three instruments charted here move in tandem, they demonstrate a direction in the market and when all three move together that direction is clearer. This chart shows that all three instruments are trading in an upward direction, albeit on a low gradient. That means rate falls are predicted. The 90-day bank bill is predicting a move to 2.5 per cent, the three-year bond to 2.75 per cent and the 10-year bond to 3.75 per cent.

Those wishing to seek protection from rate rises once the fall cycle is completed can sell these three products on the ASX. When rates rise, these futures prices will fall delivering a profit that will help offset interest costs. A wise strategy would be to protect your position with stop losses to limit exposure if the market moves the other way.

This column is not investment advice. rodmyr@gmail.com

Related Articles