Hot US inflation hits $A, lifting chance of RBA rate rise
The Australian dollar tumbled and bonds sold off after firmer than expected US inflation data dented hopes that the Federal Reserve, and in turn, the Reserve Bank may be done with raising interest rates.
The local currency dropped 1.5 per cent to US63.15¢ in the biggest daily fall since early August and is near an 11-month low of US62.83¢ touched last week. It is on course for a 1 per cent weekly loss and follows strength in the US dollar index, which shot up 0.7 per cent against a basket of currencies.
The hot inflation figures also sent bond yields soaring, with the rate on US 10-year jumping 16 basis points higher to 4.72 per cent, pulling close to a 16-year top of 4.89 per cent touched last week. Bonds have had a volatile week, with yields falling sharply following a softer stance on future interest rate rises by a string of Fed officials.
“After a few positive sessions of yields falling, the surprise stickiness of inflation data has given bonds a kick in the pants with a meaningful sell-off overnight,” said Scott Rundell, Mutual Ltd’s chief investment officer.
US headline consumer price index rose 0.4 per cent in September, above a consensus of a 0.3 per cent gain. Core inflation – a measure watched by the Fed because it excludes volatile items such as food and energy – added 0.3 per cent and came in line with forecasts.
The result suggests inflation is taking longer to return to the 2 per cent target in the world’s largest economy than the Fed may want, prompting traders to dial up the risk of a rate rise. US Fed fund futures imply a 40 per cent chance of a move this year, from 28 per cent on Wednesday.
They are nearly fully priced for the policy rate to stay in November in the range of 5.25 per cent to 5 per cent, where it has been since July. Rate cuts are expected from mid-2024.
Brutal reversal
Australian bond yields were dragged higher with the three-year return up 7 basis points to 3.97 per cent and the 10-year rate leaping 12 basis points to 4.47 per cent, in a steepening of the yield curve.
Financial markets have also sharpened speculation the RBA will lift the cash rate, with bond futures implying a 54 per cent chance interest rates will peak at 4.35 per cent by early next year, up from 38 per cent on Wednesday.
At the same time, they pruned expectations of a rate cut to 7 per cent, from 21 per cent.
Viktor Shvets, global head of strategy at Macquarie Bank, noted that the steepening of global yield curves against a backdrop of weakening fundamentals was a concern. He noted that any inflationary data that hints at re-accelerating pressures is being viewed as a sign that central banks might be “determined to perpetuate policy errors”.
“We disagree,” he said, arguing that the contraction in the growth rate, money supply and credit will continue to bring down inflation and force central banks to cut rates. “It is just a matter of time.”
Mr Shvets said that 2024 would bring lower rates and higher liquidity supporting stagnant but not recessionary economies. “[It’s] not the best environment for equities but no disasters either,” he said.
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