ASX investors warned to brace for rate hikes as inflation fears grow
Australian shares have dropped as economists warn the RBA could hike rates sooner than expected, threatening the current economic cycle.
It was a shaky start to the month for markets after they hit a rough patch in November.
A rebound came as US Federal Reserve officials went dovish, but with US markets near record highs investors want to see the US central bank deliver a much anticipated rate cut next week.
They will want to see a change in tune from Fed chair Jerome Powell, although his commitment to rate cuts won’t be such an issue if President Trump names an uber-dovish replacement for Powell.
Even after the rebound in recent weeks, the Nasdaq Composite and Australia’s S&P/ASX 200 fell the most since March, the latter down 3 per cent as the inflation picture turned ugly.
The sell-off resumed early Monday, with the ASX 200 dropping 0.6 per cent in response to a 0.8 per cent fall in S&P 500 futures, which seemed to be linked to a renewed fall in bitcoin.
After dropping 36 per cent to a seven-month low near $US80,553 during the October-November sell-off, Bitcoin bounced 15 per cent in late November.
But, on Monday it suddenly fell 6 per cent to $US85,700.56.
To make matters worse, a technical glitch at the ASX halted dozens of company announcements for several hours and the ASX couldn’t immediately pinpoint the cause.
It came after Friday’s 10-hour shutdown at the Chicago Mercantile Exchange stopped investors from trading contracts tracking the S&P 500 index and many other assets before month’s end.
That outage stemmed from cooling problems at a crucial data centre in the Chicago area.
The Australian market also faces the risk of a much less dovish and potentially quite hawkish tone from the Reserve Bank after its meeting next week.
UBS chief economist George Tharenou was among the more hawkish economists after the inflation blowout last month, predicting 50 basis points of rate hikes starting in the December quarter of 2026.
But, after analysing data on credit growth, household deposits, household wealth, debt, retirement assets and benefits paid, he now warns the risk is skewed to the upside.
“The timing of cycles is always difficult to forecast … however, since the RBA adopted an explicit inflation target in the early 1990s, the time between the RBA’s last rate cut, to the first rate hike, has averaged only 11 months; while in this coming cycle, we expect a longer 15 months,” he says.
“Hence, given this, coupled by the current boom in household wealth, and rising leverage in the economy, the risks to our RBA view are for an earlier rate hike in mid-26; as well as the risk of more hikes than our forecast of a 50 basis point cycle by Q1-27.
“Our RBA view also reflects the likelihood that APRA’s macro-prudential policy tightening, announced so far, is unlikely to materially weaken the housing market.”
With the money market now seeing a fifty-fifty chance of an initial 25 basis point rate hike by the RBA about 12 months from now, Macquarie’s Australian equity strategist Matthew Brooks has looked at what works to buy and avoid before the start of rate hikes.
Overall he found stocks usually rise in the year before hikes start, led by late-cycle cyclicals like resources. Small resources also outperform strongly, while early-cycle cyclicals like media, retail and consumer discretionary stocks tend to underperform, along with property trusts and defensives.
“Just two weeks ago, we suggested the RBA was likely on hold, with hikes possibly starting in the second half of calendar year 2026 as part of a global pivot due to stronger growth,” Brooks says. “With the latest core inflation print above the RBA’s target band of 2-3 per cent, the risk of hikes has increased.”
He notes 6 of 10 developed markets he tracks have core inflation of at least 3 per cent.
“We do not see this as a stagflation scenario, as higher inflation is partly due to stronger growth and the unemployment rate is still relatively low, albeit trending up slowly,” Brooks adds.
Looking at asset and sector returns in the year before the first RBA hike for the five tightening cycles since the RBA shifted to inflation targeting in the early 1990s, he finds stocks have a median total return in the year leading to hikes of nearly 8 per cent.
Returns were positive in all five cases, as the same rise in growth and inflation which drives the RBA to hike also drives stronger earnings growth.
Resources beat industrials in the past five cycles, led by gains in mining, as the sector benefits from stronger growth, is a hedge against rising inflation and is at less risk of the PE de-rate that can impact industrials when bond yields rise in anticipation of hikes.
Small resources outperformed strongly in those cases and basic materials, transport, banks and financial services also have a good record of outperformance leading into the first RBA hike.
But, early-cycle cyclicals like media, retail and discretionary often underperform in the lead up to hikes as the market starts to anticipate the best has passed.
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Originally published as ASX investors warned to brace for rate hikes as inflation fears grow
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