ASX 200 Surrenders Big Gains as Inflation Jumps to 4.3% and Markets Bet Heavily on a November RBA Rate Hike

Australian shares gave up a strong early rally to finish slightly lower on Wednesday. Hotter-than-expected inflation data pushed traders to bet heavily that the Reserve Bank of Australia will raise interest rates again next week.

The S&P/ASX 200 index closed down 2.8 points, or 0.03%, at 8,847.3. The benchmark had climbed as much as 0.9% in the morning to about 8,928 before the consumer price figures were released at 11:30 a.m. AEDT. It then faded through the afternoon.

The index had risen 0.46% on Tuesday to 8,850.1.

Inflation accelerates

Data from the Australian Bureau of Statistics showed consumer prices rose 4.3% in the 12 months to September, up from 4% in August. Prices rose 0.8% in September alone.

For the September quarter, the consumer price index rose 1.3%. The trimmed mean measure, which strips out the most extreme price changes and is closely watched by the RBA, rose 1% in the quarter. On an annual basis, trimmed mean inflation was 3.6% in September, above the central bank's 2% to 3% target band.

Housing was the largest contributor.

"Housing was the largest contributor to annual inflation in September, rising by 5.2 per cent," said Rachael McCririck, the bureau's head of price statistics.

Electricity costs and new home prices both increased. The cost of new dwellings rose 4.7% from a year earlier, as builders passed on higher costs for materials and labor.

Transport was the second-biggest driver, rising 8.7% over the year. Automotive fuel prices jumped 9.4% in September, after a 14.8% surge in August, as global oil prices climbed on conflict in the Middle East and attacks on shipping in the Strait of Hormuz.

Rate hike bets surge

The figures sharply increased expectations that the RBA will raise its cash rate, now 4.60%, when it meets on Tuesday, Nov. 3, Melbourne Cup Day.

Before the data, financial markets priced in roughly a 60% chance of a hike. Within minutes of the release, pricing in overnight index swaps had climbed to about 79%, and later reports put the probability near 90%, according to ABC News.

Several major banks moved to forecast a hike. Commonwealth Bank of Australia economist Belinda Allen switched her call from a hold to a hike, saying the RBA was clearly concerned about keeping longer-term inflation expectations anchored.

ANZ economists Adam Boyton and Madeline Dunk said the data "cements the case" for a 25-basis-point increase in November.

Westpac chief economist Luci Ellis said recent data and the central bank's communication pointed to RBA staff recommending a hike. She said she did not currently see further increases beyond November as the base case.

The RBA has already raised rates three times this year.

Bullock before the Senate

RBA Governor Michele Bullock appeared before a Senate committee on Wednesday morning, shortly before the inflation data was released.

She said the central bank was working to improve how it handles price shocks driven by supply problems, such as the recent jump in fuel prices.

"We are working very hard on adjusting, adapting our models to try to get better at recognising supply shocks," Bullock said.

On the labor market, she said, "We're not worried about the pace of increase in the unemployment rate at this stage."

Bullock also said heavy investment in data centers was adding to demand in the economy and contributing to current inflation pressure.

Deputy Governor Andrew Hauser said a recent rise in business inflation expectations "isn't a klaxon," but that the central bank was watching it closely.

Miners hold up, energy slips

Before the inflation data, the market was buoyed by gains in mining and technology stocks.

Gold miner Northern Star Resources rose about 1.6% and iron ore producer Fortescue gained about 1%. Among the top morning gainers were IperionX, up about 11.6%; data center operator NextDC, up about 10.8%; and mineral sands producer Iluka Resources, up about 6.3%.

NextDC extended a sharp rebound from last week's sell-off, when it slashed its earnings guidance. Technology stocks managed to finish the day higher, outperforming the broader market.

Energy shares were weaker, with Woodside Energy down about 1.4%. Insurer QBE fell about 2.5%, and plumbing supplies company Reece dropped about 8.1% in morning trade.

Banks rose in the morning, though higher interest rates have mixed effects on lenders: they can widen lending margins but also increase the risk of bad loans.

Currency jumps

The Australian dollar rose after the inflation data, climbing to about 70.45 U.S. cents as traders priced in higher interest rates. It later eased to around 70.32 U.S. cents.

A higher interest rate outlook tends to support the currency, because it makes Australian assets more attractive to foreign investors.

Pressure on households

The figures are a blow to households already struggling with higher living costs. A rate increase next week would add to mortgage repayments for millions of borrowers after three hikes this year, which have lifted the cash rate from 3.60% to 4.60%.

Economists say the RBA faces a difficult balance. Supply-driven price increases, particularly in fuel, are pushing inflation higher, while unemployment has been edging up. Raising rates further risks slowing the economy, but central bankers have signaled they are worried that inflation could become entrenched.

Global week ahead

Investors will also watch the U.S. Federal Reserve's interest rate decision on Wednesday in Washington, early Thursday in Australia. Earnings from major U.S. technology companies are due later this week, and the Bank of Japan announces its policy decision on Friday.

Locally, attention now turns to the RBA's decision next Tuesday, which is expected to set the tone for Australian markets heading into the end of the year.