Dollar Strength Triggers Rate Hike Speculation, Bond Market Pain

The Australian and New Zealand dollars took a hit on Friday as the US dollar surged due to rising oil prices. This led to speculation about interest rate hikes globally, which negatively impacted bond markets.

The Australian dollar was flat at $0.6973, having slipped 0.4% overnight, but still maintained gains against the yen and euro due to Australia's status as a net exporter of liquefied natural gas and coal.

Belinda Allen, head of Australian economics at CBA, noted that higher oil prices increase the risk of inflation, but also pose risks for growth. She stated that 'the risk sits with the need for another rate hike' but acknowledged the uncertainty surrounding the path of the war.

The Reserve Bank of Australia's implied chance of lifting the 4.35% cash rate at its next meeting in August rose to 40%, up from 10% a couple of weeks ago. Markets are already pricing in a move to 4.60% by November and even suggest a one-in-three chance of rates topping out at 4.85%.

The hawkish turn had significant implications for bonds, with 10-year yields climbing to a two-month high at 5.067%. This left them up a steep 16 basis points for the week. Three-year bond futures were also down 20 ticks for the week so far, the largest drop since mid-March.