The Australian Dollar is inching lower early Friday after touching a four-month high the previous session. The rally is being fueled by investors betting on a sooner than expected interest rate hike by the Reserve Bank (RBA). Aussie bonds have plunged and yields have soared to their highest levels since 2019, making the Australian Dollar a more attractive asset than the U.S. Dollar.
Bond markets have been battered since early Wednesday when the RBA left its benchmark interest rate unchanged while skipping another chance to defend its 0.1% target for the April 2024 bond yield, even though yields had topped.
By passing on a chance to put a lid on the rise in yields, the RBA may be telling market participants that it is moving up its date for its first rate hike. The RBA had been telling investors not to expect a rate hike until late 2023 or early 2024, but now the futures markets indicate a first rate hike is likely to come in the fourth quarter of next year. Some futures markets have almost fully priced for a rise to 0.25% by April, while swaps had rates above 1% by the end of the year.
At 06:44 GMT, the AUD/USD is trading .7538, down 0.0007 or -0.09%.
Rise in Australian Core Inflation Catalyst Behind Rate Hike Fever
Australian core inflation sped to its fastest annual pace since 2015 in the September quarter as price increases became more broad-based, a major surprise that led markets to wager heavily on earlier hikes in interest rates.
Data from the Australian Bureau of Statistics out on Wednesday showed the headline consumer price index (CPI) rose 0.8% in the third quarter and 3.0% for the year, much as expected.
However, the trimmed mean measure of core inflation favored by the Reserve Bank of Australia (RBA) rose 0.7% in the quarter, above forecasts of 0.5%.
The annual pace accelerated to 2.1%, well above the 1.8% expected and putting it back in the RBA’s 2% to 3% target range for the first time in six years.
We’re looking for the RBA to give in to the pressure from the rise in government bond yields.
Ahead of this week’s consumer inflation reports the RBA had forecast core inflation would not reach 2% until mid-2023 and, in turn, that cash rates would remain at record lows of 0.1% right out to 2024.
However, the jump in consumer inflation only emboldened markets which had already thought the RBA was behind the curve on inflation and would have to tighten much earlier, perhaps by July next year.
The rally in the AUD/USD indicates that investors are betting on a more hawkish tone in next week’s RBA monetary policy statement. Although this would be bullish news, gains could be limited because expectations have already been priced into the currency. Furthermore, the direction of the Aussie will also be influenced by the Federal Reserve’s decisions on tapering and its first rate hike after its November 2-3 policy meeting.