News: Australia, NZ dlrs tested as yield cushions turn threadbare

The Australian dollar stayed on the defensive on Wednesday as local short-term yields came close to breaking below those in the United Sates for the first time since 2000, undermining the Aussie's attraction as a carry trade.

It was was flat at $0.7579 and within spitting distance of a five-month trough of $0.7532 hit on Tuesday.

The Aussie had got a slight lift overnight when Reserve Bank of Australia (RBA) Governor Philip Lowe said it more likely the next move in interest rates would be up than down, quashing any idea that recent soft data on wages and inflation might lead to a cut.

Yet Lowe also emphasised that both wages growth and inflation looked set to be lower for longer than first expected, meaning there was no case for a hike either.

Markets <0#YIB:> have already pushed out the likely timing of a rate rise, with a move from 1.5 percent not fully priced in until March of 2019.

"Soft underlying domestic demand, with uncertainty over the outlook for housing, barely within-target inflation, and ongoing excess labour market capacity, points to little reason for the cash rate to move until early 2019," said Su-Lin Ong, head of Australian strategy at RBC Capital Markets.

Yet RBC expects the U.S. Federal Reserve to hike by 25 basis points next month and by 100 basis points over 2018, which would take the U.S. cash rate well above that in Australia.

That sea change is being reflected in bond markets with Australian two-year yields now a mere 2 basis points above their U.S. counterpart, having been as much as 60 basis points higher a couple of months ago.

The last time they broke below U.S. yields was in mid-2000, when the Aussie was hovering around $0.5900.

Likewise, the spread between New Zealand two-year paper and the U.S. has collapsed to 23 basis points, having been as wide as 76 basis points in September. Kiwi yields have not been under those in the U.S. since the end of 1999.

That compression in spreads coincided with a fall in the kiwi dollar from atop $0.7300 to as low as $0.6781 last week. The slide has, however, left the market very short of the currency allowing a modest bounce in the last couple of days.

On Wednesday, the kiwi was trading up 0.2 percent at $0.6843, but faced chart resistance at $0.6883.

The bounce helped overcome an auction showing prices for dairy, the country's largest export earner, had dropped for the fourth time in a row.

Aiding sentiment locally were figures showing net permanent migration posted yet another strong jump of 5,580 in October.

New Zealand government bonds <0#NZTSY=> gained, sending yields 3 basis points lower at the long end of the curve.

Australian government bond futures were mixed, mirroring a further flattening in the U.S. Treasury curve. The three-year bond contract YTTc1 was flat at 98.060 while the 10-year contract YTCc1 firmed 2.5 ticks to 97.4600.