Tim Hext: What’s causing an ongoing spike in inflation

Inflation is trending above Reserve Bank expectations. Pendal’s head of government bond strategies TIM HEXT explains what it means for investors

• Find out about Pendal Government Bond Fund
• Browse Pendal’s fixed interest funds

THE ABS today released its first complete monthly view of inflation.

The Bureau described the shift from quarterly to monthly CPI as a “major milestone” enabling “earlier detection of shifts in inflation and provide better information for policy decisions for all Australians”.

And it’s fair to say most Australians took notice — with the data showing October monthly inflation was 3.8% higher than the same time last year.

The ABS also released an attempt at a trimmed mean, which showing prices 3.3% higher than a year ago. (A lack of accurate seasonality for now makes a less accurate process.)

The data is slightly higher than Reserve Bank expectations of 3.7% headline inflation and 3.2% trimmed mean by the end of the year.

What is causing this ongoing spike higher in inflation?

School holidays fell largely into October this year, pushing up domestic travel inflation by 6% in October — and more than 7% compared to October last year.

Water prices were up 4% and are now 7% higher than last year. This is a new utilities pressure point which escaped the surges of 2022.

A basket of imported goods all moved higher by 2% to 3% – all goods that usually flatline like footwear, clothes and homewares.

Find out about

Pendal’s Income and Fixed Interest funds

Read more

Importantly, new dwellings moved 0.4% higher in October. Although it’s a decent rise, this is not a bad as feared.

The noise from the removal of electricity subsidies remains. Prices are 37% higher than a year ago.

The outlook

Traditionally for the Reserve Bank to hit its 2.5% CPI target they needed service prices (which make up two thirds of the basket) to be 3-4% and goods prices (one third) to be around 0-1%.

Pre-pandemic this was not a  problem. But far too many services have now settled down above 4%.

Health, education, utilities and childcare are all failing to move lower with wages.

We have written a lot about this and remain optimistic this will fall back in the year ahead.

Our concern near term is the current spike may feed back into wages in 2026. 

Hopefully by early next year some of these pressures will abate, but the minimum wage decision in June will be watched closely.

It was 3.5% this year and hopefully will be similar next year

Market impact

The market is in no mood to look through poor inflation numbers.

Three-year yields are now pushing above 3.85% or 0.25% over cash.

Markets have almost fully priced out rate cuts for the first half of next year and are now pricing a 50 per cent chance of a hike by year end.

We expect some commentators will now forecast hikes next year.

The Reserve Bank will not be pleased with the direction of inflation, but the volatility of these monthly numbers will calm them for now.

The main test will be the fourth-quarter numbers released in late January.

We were looking for 0.7% trimmed mean but after today will need to push that up to 0.8%.

Another 1% outcome would certainly start to test their nerve.

Meanwhile odds are building for a US rate cut next month.

As the Bloomberg chart below shows Australian ten-year bonds are at their widest to the US since June 2022 and 2017 before that.

Since June we have underperformed by 0.75%, from 0.25% under US bonds to 0.5% over.

If you’d like to hear more about how Pendal’s Income & Fixed Interest team is positioning for this environment, please contact us through our accounts team

About Tim Hext and Pendal’s Income & Fixed Interest boutique

Tim Hext is a Pendal portfolio manager and head of government bond strategies in our Income and Fixed Interest team.

Tim has extensive experience in banking, financial markets and funding including senior positions with NSW Treasury Corporation (TCorp), Westpac Treasury, Commonwealth Bank of Australia, Deutsche Bank, Bain & Co and Swiss Bank Corporation.

Pendal’s Income and Fixed Interest boutique is one of the most experienced and well-regarded fixed income teams in Australia.

Find out more about Pendal’s fixed interest strategies here

About Pendal

Pendal is a global investment management business focused on delivering superior investment returns for our clients through active management.

In 2023, Pendal became part of Perpetual Limited (ASX:PPT), bringing together two of Australia’s most respected active asset management brands to create a global leader in multi-boutique asset management with autonomous, world-class investment capabilities and a growing leadership position in ESG.

Contact a Pendal key account manager