NZ, Australia show more value

LONDON - Government bonds from the non-US dollar bloc of Canada, Australia and New Zealand offer value to foreign investors seeking yield despite varying prospects for their currencies, analysts say.

The central banks of Australia and Canada both cut interest rates this week, citing risks to growth, and analysts said more were likely to follow - a positive climate for bonds.

Several bond strategists have picked Canada as a good defence as the US economy slows.

"I would probably stick with my former view that I would favour Canada and New Zealand over Australia," said Dick Howard, director of economics at Julius Baer Investments in London.

The three countries are very dependent on commodities internationally traded in US dollars and often grouped together.

Mr Howard said the level of the Canadian dollar, which has weakened throughout the year, was attractive and the bonds still offered a 10-year yield pick-up of 38 basis points over US Treasuries.

The spread has widened from minus 25 in mid-2000 as US Treasury yields slid. It hit 41 basis points last Friday.

The Bank of Canada cut the bank rate to 5.25 per cent from 5.75 per cent, saying the weakening US economy could damage Canadian growth prospects. Canada sends 80 per cent of its exports to the United States.

Growth is still seen at between 2.5 and 2.9 per cent.

Many economists expect the Australian dollar, which has also slid this year, to ease significantly in coming months.

"That would obviously outweigh any advantages on the yield side," said Stephen Hannah, chief economist in Europe for National Australia Bank. "The weakness in the economy suggests there might be more performance from interest rates but it is the currency that is worrying people."

Australian 10-year bonds were yielding 29 basis points more than Treasuries yesterday, compared with 10 in mid-2000.

Gianpaolo Mosconi, strategist at Sanwa International, said the prospect of more rate cuts after the output drop meant Australia would probably outperform Canada and New Zealand.

"That will see two-year yields in Australian governments falling at least another 30 basis points over three months," he said, adding that Canadian two-year yields would probably drop just 10 basis points in the same period.

Mr Mosconi said the Canadian dollar could indeed hit fresh lows to the US dollar but then rebound.

"In the short term, non-Australian dollar based investors might consider hedging the FX side of the trade," he said.

Mr Mosconi saw the 10-year Australian spread heading to parity and then crossing over by 15-20 basis points.

On the day Canada and Australia cut interest rates, Standard & Poor's affirmed New Zealand's credit rating, including the AA+ long-term sovereign rating and AAA for long-term New Zealand dollar-denominated debt.

S&P raised New Zealand's outlook to stable from negative, citing its resilient economy and Government fiscal prudence.

Mr Howard said New Zealand stood out in that it offered a yield spread of more than 100 basis points at five and 10 years.

However, Mr Hannah said investors would be more inclined to buy the Treasuries rather than the non-US dollar bloc in a period of economic uncertainty.

- NZPA