Risk appetite in global credit markets is definitely worth keeping an eye on in 2020 but again not something easily predicted. Free-flowing liquidity has seen a pretty lackadaisical attitude to risk of all kinds develop over time.
BBB-rated bonds, the lowest investment tier, now make up nearly 60 per cent of the investment grade universe, low-covenant loans with fewer protections for lenders have become the norm and risk spreads of all kinds have contracted as investors seek yield wherever it can be found.
This has benefited NZ as a relatively risky, indebted economy. But history shows collective attitudes to risk are prone to abrupt swings and there is no reason to think this time will be any different.
What the catalyst and timing will be is impossible to know but at some stage, pundits will reassess the amount of risk out there – and the appropriate reward they should be receiving for taking it.
Typically, this happens when things are turning pear-shaped and the RBNZ is slashing the official cash rate, swamping the upward impact on rates of widening risk spreads. But now, with limited room to cut rates further, it is not inconceivable that NZ rates could rise because times are bad.
That’s something not seen often, if at all. There aren’t any particular signs such a development is coming but the risk hasn’t gone away.
The NZ dollar has been behaving itself, tracking at or below where commodity prices suggest it should be, making for some nice farmgate returns and supporting inflation.
The NZ dollar is of course affected by monetary policy decisions but can reflect a lot of factors. The currency can jump horses without much warning, from commodity prices, to interest rate differentials, economic data and global risk appetite.
It makes exchange rate forecasting a mug’s game but the path of the dollar is a major determinant of many businesses’ decision-making and profitability. It’s an important relief valve for the NZ economy and a key part of monetary conditions, particularly with rates so close to practical limits.
Let’s turn now to things that typically reflect NZ choices and policy settings. The RBNZ’s final bank capital decision implies a less-sharp build-up of equity capital than the original proposal.
This roughly halves ANZ Research’s estimate of the impact of the move. While it will still be a decent headwind, it’s no longer looking like a handbrake.
It still has consequences for credit availability, which is of particular concern as a range of factors coincide, including bank capital changes, the dairy sector and interest rates.
The 2010 rules that made NZ banks less reliant on short-term foreign funding made them more reliant on deposits. If these fall this could limit banks’ ability to grow lending.
In practice, observed credit growth is a combination of demand and supply factors. Credit availability is only observable by proxy, through the RBNZ’s credit conditions survey, and the credit availability question in the ANZ Business Outlook survey. Both are flashing orange at the moment.