As expected, the Reserve Bank (RBA) left interest rates on hold at 4.35% today, further stoking optimism that the rate hiking cycle may be over following a significant fall in inflation in the December quarter.
Market optimism on rates was a primary driver of the Santa Rally in ASX shares and US shares at the end of 2023 after the US Federal Reserve hinted that it expected to start cutting rates in the new year.
We then saw a new record high for the ASX 200 last Wednesday, which was superseded on Friday, as speculation grew that interest rates in Australia would also be cut in 2024, but later in the year.
And we've just seen an amazing start to the 2024 auction season, with the second-highest number of homes going to auction since 2008 and an astounding preliminary national clearance rate of 74%.
CoreLogic economist Kaytlin Ezzy says the possibility of rate cuts likely contributed to this very strong start.
Image source: Getty Images
Why did the Reserve Bank keep interest rates on hold?
In a statement released at 2.30pm, the Reserve Bank said higher interest rates were working to bring down economic demand, and household consumption growth was now weak.
However, it left the door open to another rate hike, warning that inflation was still too high and it "needs to be confident that inflation is moving sustainably towards the target range" of 2% to 3%.
This appears to have spooked investors today, with ASX 200 shares falling after the news and closing the session 0.58% lower.
The Reserve Bank said:
Inflation is still high, but we are making progress towards a better balance between supply and demand in the economy. While there are encouraging signs, the economic outlook is uncertain and the Board expects it will be some time before inflation is sustainably low and stable.
The Board's decision today balances the objectives of bringing inflation down while also preserving the gains in employment. The Board's future decisions will depend upon the data and evolving risks, and a further increase in interest rates cannot be ruled out.
However, NAB chief economist Alan Oster reckons the RBA is "pretty much done" with interest rate rises, according to news.com.au. Oster said the cash rate would now remain "on hold for quite a while".
Oster is not alone in his outlook on interest rates.
In a recent note, CBA head economist Gareth Aird said he expects the next move on rates to be down, but the RBA may choose to keep a tightening bias in its communication strategy for a while.
Aird explained:
The Governor and Deputy Governor do not just communicate with market participants. They communicate with households, businesses and policymakers (i.e. government).
Maintaining a tightening bias will signal to the fiscal authorities that it's too early to declare the inflation fight over. The RBA would not wish to see fiscal settings loosened until further progress on inflation has been made towards the target band.
CBA is tipping that the RBA will start cutting interest rates in September. NAB is tipping November.
Aird said he expects total cuts of 75 basis points this year and another 75 points in the first half of 2025.
The size of the annual inflation rate decline — from 5.4% in the September quarter to 4.1% in the December quarter — seems to have supercharged analysts' confidence that rates will be cut.
There are also expectations that the US Fed Reserve will cut rates in the US aggressively this year.
How rates optimism is turbocharging shares vs. property
ASX 200 shares beat their August 2021 high of 7,632.8 points last Wednesday when the index reached an intraday peak of 7,682.3 points.
The ASX 200 index went even higher on Friday, clocking 7,703.6 at the intraday peak.
As my Fool colleague Seb explained, investors are feeling confident due to falling inflation, continuing low unemployment, expectations of rate cuts later in the year, and surging US stocks.
Meantime, Australian home values are continuing to rise in 2024, and the official auction season began with a bang on Saturday.
CoreLogic data shows 1,671 homes went to auction across Australia's combined capital cities on Saturday, which was the second-biggest auction season start since CoreLogic began tracking auctions in 2008.
The high volume of auctions indicates greater confidence among sellers. This follows an extraordinary year in 2023 when we saw surprisingly strong rises in home values while interest rates were going up.
Not only was it a big day in terms of auction numbers, but we also saw extraordinary clearance rates across the capital cities and in regional areas, too.
A balanced market typically delivers an auction clearance rate of 60%. Anything higher indicates there is more demand than supply, and 80% or thereabouts is considered boom-time conditions.
On Saturday, the national preliminary clearance rate came in at an impressive 73.9% across the cities.
The individual clearance rates were Canberra 80%, Adelaide 77.6%, Sydney 76.3%, Melbourne 71.9%, and Brisbane 68.5%. Regional results included Newcastle and Lake Macquarie 77.8%, and the Gold Coast at 65.3%.
CoreLogic economist Kaytlin Ezzy said optimism about interest rates was potentially contributing to some early-year market exuberance.
Ezzy said:
Overall, it looks like auction markets are starting the year on a strong footing.
Potentially, the news of low inflation and the possibility of early rate cuts is already boosting sentiment. The next few weeks should provide further guidance on whether this strong result is simply some early-year exuberance or a trend that can persist.
