GOLDMAN SACHS: You can still make money betting on a RBA rate cut in 2016

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While the RBA have signaled a reluctance to cut official interest rates any further, there’s still money to be made on betting on further reductions in 2016.

That’s the view of Philip Moffitt, head of Asia-Pacific fixed income at Goldman Sachs Asset Management, who believes that Australia’s central bank is still more likely to cut interest rates rather than increase them in the year ahead.

“They don’t have to cut rates for you to make money out of thinking they might cut rates,” Moffitt told Bloomberg late last month.

“We would bet the next RBA move is still more likely a cut than a rise, and so particularly the front end of Australia looks OK on a relative basis globally.”

On the back of recent strength in the labour market, primarily led by the nation’s vast services sector, the odds of further rate cuts from the bank have diminished significantly in recent months.

According to swaps pricing, the odds of a further 0.25% reduction in the cash rate have fallen to just 28% in the first quarter of the year, a sharp decline from the near 100% level seen in the latter parts of 2015.

The improved run of economic data, along with remarks from RBA governor Glenn Stevens who told markets to “chill out” last November when contemplating the outlook for domestic interest rates, both contributed to the sharp reduction in rate cut expectations over the past two months.

RBA Cash Rate

However, despite the apparent “high bar” for additional policy easing, Moffitt suggests the subdued inflation outlook, along with signs of softening in the residential housing market, could prompt the RBA to reduce interest rates further in the year ahead.

“If inflation remains low the mandate says you’ve got to focus on these things and there’d be some growing pressure, particularly if the housing market stalls out a bit,” said Moffitt.

“We’d want to be exposed to the front end of the Australian curve, certainly relative to other places.”

The front-end of the the curve that Moffitt refers to implies using near-dated interest rate securities, be they physical debt instruments or derivatives such as interest rate swaps or futures, to capitalise on increased expectations for lower interest rates arriving at some point in 2016.

Although they expect that the cash rate will remain on hold in 2016, Goldman currently attaches a 45% probability that the RBA will cut interest rates by an additional 25 basis points in the first half of the year.

They also expect that the Australian economy will grow at just 2%, suggesting that “balancing the transition of economic growth from the non-mining sector then 2016 will likely be worse”.

Goldman, along with a number of other forecasters, recently changed its view that Australian interest rates would be reduced further, changing their call for a reduction to 1.75% following an incredibly strong Australian employment report for November.

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