Outlook Q2 2026 & Quarterly review

Policy Overview and Global Backdrop

The Reserve Bank of Australia (RBA) abruptly returned to tightening mode in early 2026. In February the RBA hiked the cash rate by 25 basis points to 3.85%, followed by another 25 bp increase in March to 4.10%. This effectively reversed a portion of the rate cuts delivered during 2025. The March decision, notably, was a close 5–4 vote, reflecting deliberations on timing rather than direction.

An outbreak of conflict involving US–Iran and an effective closure of the Strait of Hormuz in late February sent global oil prices soaring above US$100 per barrel. This energy supply shock has yet to fully appear in Australian inflation data (petrol prices were still 7.2% lower YoY in February¹). The spike in fuel costs following the outbreak in conflict is already dragging on consumer confidence – prompting government relief measures like a temporary cut to fuel excise taxes.

The RBA revised up its own inflation forecasts in the February Statement on Monetary Policy, before the latest oil shock and acknowledges that price growth will likely remain above target for several more quarters. The Middle East conflict adds to these concerns. As Assistant Governor Christopher Kent noted in a late-March speech, the supply-driven surge in energy costs presents a policy dilemma: on one hand it is causing a tightening in financial conditions (making a given interest rate more restrictive), but on the other hand it poses an upside risk to inflation and inflation expectations in an economy already near full capacity. These considerations suggest the Board is prepared to raise rates further if needed to keep inflation expectations anchored – while also watching for signs of demand softening in other parts of the economy.

Bond Yields and Currency – Yields spike to multi year highs, AUD volatile

Australian bond yields jumped sharply in Q1 2026, reflecting both the RBA’s policy direction and global developments. The yield on the 3-year Commonwealth bond rose above 4.8%² as markets priced in the RBA’s return to a restrictive stance. Longer-term yields also spiked: the 10-year yield climbed above 5.1% before settling around 5.0% at quarter-end. This upswing was driven by stubborn inflation readings at home and a worldwide repricing of rate expectations following the oil shock. Notably, the Australian 10-year yield maintained a spread of roughly 50- 60 bps above the US 10-year Treasury yield for much of Q1.

The Australian dollar (AUD) experienced renewed volatility during the quarter. Broadly, the currency was caught between opposing forces: support from higher export prices and a hawkish RBA versus downside from episodes of risk aversion and a firmer US dollar. Looking ahead, the currency’s trajectory will depend on how the conflict evolves and whether the RBA’s inflation fight diverges from other central banks. Given Australia’s positive yield carry and commodity exposure, the AUD could find pockets of strength if calm returns to markets; conversely, any further escalation of global risks may see investors seek safety in the USD.

Credit Markets – Stable Spreads, Strong Issuance, and Technical Tailwinds

Australian credit markets were notably stable, even as interest rates rose and geopolitical tensions flared. Major credit indices showed spreads largely unchanged at historically tight levels by quarter-end³. This resilience was supported by relatively sound credit fundamentals and investors’ ongoing desire for yield. Australian corporates and financial institutions generally enjoy healthy balance sheets, with low default rates and strong interest coverage metrics, allowing them to weather higher borrowing costs. Major local banks tapped the domestic market alongside corporates and securitisation deals, and nearly all transactions were oversubscribed. Notable deals included the A$1.3 billion multi-tranche deal by Verizon and an $800 million green bond from NBN Co. Issuers also raised substantial funds in offshore markets.

Despite the generally constructive conditions, we remain mindful of heightened risk. The rapid rise in interest rates and higher living costs could pressure some rate-sensitive sectors. For instance, REITs (real estate investment trusts) and consumer-facing industries (retail, discretionary services) may see strains as financing and operating costs climb and consumers trim spending. Overall, we expect Australian credit to remain a key source of income.

The Australian economy is on sound footing though new challenges exist from tighter monetary policy and external price shocks. We expect persistent inflation, amplified by recent oil-driven price shocks, to keep the RBA biased toward further tightening as Q2 begins. Another 0.25% rate hike is broadly anticipated at the early May meeting (to a cash rate of 4.35%), and at the time of writing the market is pricing another 1- 2 hikes beyond this for this year. We believe the bank likely to pause after a hike in May as the RBA remains focused on data for evidence of policy transmission amidst a backdrop of increased uncertainty.

• Economic growth is likely to moderate in Q2 2026. The resilience seen in recent quarters will be tested by tighter financial conditions and a cost-of-living shock from higher energy prices.
• Household consumption, in particular, is likely to slow as more disposable income is absorbed by mortgage payments and fuel costs.
• Fiscal policy is likely to provide mild support: the federal government’s upcoming May budget is expected to include targeted cost-of-living relief (e.g. energy rebates for vulnerable households) funded by revenue upgrades from high commodity prices. These measures, alongside the temporary fuel excise reduction already in place, should help mitigate the shock to consumers and confidence.
• Inflation is under pressure. In the near term, headline CPI will be pushed higher by the jump in fuel and energy costs.
• Credit conditions should remain broadly stable given strong balance sheets and investor appetite, though we favour a selective, high-quality stance with vigilant sector selection.
• Bond yields are expected to stay elevated, while the Australian dollar may trade in the high-0.60s to low-0.70s – supported by elevated commodity prices and rate differentials but constrained by global risk aversion.

Recent Market Data