Tim Hext: Investors are still relaxed about the inflation outlook

Despite a narrative around re-emerging inflation, Australian investors are remarkably relaxed about the outlook. Here Pendal’s head of government bond strategies TIM HEXT explains the latest inflation data

• April CPI came in higher than expected
• Australian market relaxed about inflation outlook
• Why bonds, why now? Pendal’s income and fixed interest experts explain
• Browse Pendal’s fixed interest funds

APRIL’S inflation numbers point to a 3.6% increase in the annual Consumer Price Index.

That’s slightly higher than March (3.5%) and more than the 3.4% the market was hoping for.

Excluding volatile items (food and energy) the CPI was steady at 4.1%.

It bears repeating that the monthly CPI number does not measure all items.

Sixty per cent of items are collected every month, while 30% are collected once a quarter (with roughly 10% in each of the three months), and 10% are collected annually. 

Forecasters are still having to constantly refine their models and learn something new every release.

The ABS is constantly improving that collection and is hoping to release a comprehensive monthly number later next year.

What’s up and down in monthly price moves?

International travel led the way, up 10.6% after sharp falls earlier in the year.

Fruit prices were up 7.3%, fuel prices were up 2.2%, and medical and hospital services were up 2.7%.

Surprisingly, clothes and footwear were up 4% on average – a rare and large rise in goods prices.

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What was encouraging, though, was some rent relief – inflation “only” rose 0.5%, which is the lowest increase in a long time.

Electricity and gas prices fell slightly and will obviously collapse as subsidies hit in Q3.

The narrative has been that goods prices (about a third of CPI) should only grow 1-2%, allowing services (the other two-thirds of CPI) to be 3-4% and still get near the inflation target.

However, overriding these concerns are the impacts of upcoming government subsidies.

Electricity subsidies should deduct 0.5% from CPI in Q3 and the RBA will need to reduce its end-of-year (2024) inflation forecast from 3.8% to 3.3%.

Lower oil prices in May should see the monthly CPI start falling again and end the year closer to 3%.

Implied 10-year inflation levels, based off inflation swaps, remain reasonably well anchored at 2.77%.

Over the past 12 months, this level has largely been treading water – between 2.70% and 2.90%.

The market is backing the RBA to do its job.

Implications for investors

Three-year yields in Australia have backed up above 4% once more following this inflation number.

We view this as an opportunity to add duration, as our medium-term view on inflation is positive.

US inflation numbers come out on Friday and should show lower rental outcomes feeding through to lower outcomes.

As mentioned before, the CPI track in Australia should improve into the third quarter.

We will dig around and see if the goods inflation story in this number is temporary or a sign of emerging pressures.

The Pendal Australian equities team’s insights are very useful in this regard.

Unless our concerns ramp up, we will be happy to be long duration into the winter months.

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.

The team won Lonsec’s Active Fixed Income Fund of the Year award in 2021 and Zenith’s Australian Fixed Interest award in 2020.

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.

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