The RBA delivered a widely expected 0.25% cut to the cash rate at its recent monetary policy meeting, taking the official RBA cash rate to 3.85%. The Board noted the following in a statement accompanying the decision:
“The Board judged that the risks to inflation have become more balanced. Inflation is in the target band and upside risks appear to have diminished as international developments are expected to weigh on the economy. With inflation expected to remain around target, the Board therefore judged that an easing in monetary policy at this meeting was appropriate.”
“The Board assesses that this move will make monetary policy somewhat less restrictive. It nevertheless remains cautious about the outlook, particularly given the heightened level of uncertainty about both aggregate demand and supply.”
More cuts ahead
This is the second 0.25% cut by the RBA this year, with the market forecasting further interest rate cuts by the end of 2025. Indeed, the RBA’s own forecasts and forward assumptions expect cuts of approx. 0.65% over the next 12 months, equating to roughly another 2.5 cuts. This would take the RBA cash rate down to 3.2% by the first half of 2026, equating to cumulative cuts of 1.15% from their peak of 4.35%. The RBA lowered its forecasts for economic growth and inflation outlook, providing the Board a lot more flexibility to deliver the rate cuts. Also supporting a slighter more dovish approach to monetary policy is the uncertainty around the potential impact from U.S. tariffs and RBA’s forecast for the unemployment rate to rise to 4.3%. The forecasts imply a loosening labour market and therefore less upward pressure on wages.
Implication for select ASX sectors
Below we discuss what this rate cut, and future rate cuts could mean for demand and earnings for select ASX sectors.
- Consumer Discretionary. We are likely to see a gradual lift in demand on the back of the latest cut. In our view, the cost-of-living pressures remain, and significantly more cuts (0.8% to 1.0% in additional interest rate cuts) are likely required for there to be a meaningful uplift in spending. In any case, we expect the housing linked retailers and apparel to be the biggest beneficiaries. Stocks for consideration – JBH, WES (Bunnings / Kmart), PMV, TPW.
- Major banks. There are many moving parts to a bank’s profit & loss but the main measure to watch is the net interest margin (NIM). All the major banks have indicated they will pass on the latest rate cut to customers and the impact of this will show up in the net interest margin (NIM) for each bank first. From the perspective of whether this rate cut induces animal spirits in the housing market which leads to a pickup in loan volume growth, that is not our expectations. If the RBA cuts a further 2-3 times, we believe this would materially improve sentiment. Stocks for consideration – ANZ, CBA, NAB, WBC.
- REITs. Broadly, the latest interest rate cut is more likely to have a positive impact on investor sentiment towards the sector, rather than an instant uplift in earnings. We would argue investors have already bid up some REITs ahead of the expected rate cut. The positive sentiment comes from improving attractiveness of REITs dividend yield versus a declining risk-free rate. As for earnings, most REITs have gearing ratios of 30-40% so a cut to borrowing costs is positive. However, we would note a large majority of them have hedged their interest rate exposure into FY26. We don’t expect any immediate impact on earnings. Stocks to consider – SCG, BWP, CQE, WPR, VCX, MGR.
- Insurance. Insurance companies, which also derive earnings from the returns on their investment portfolios could see an impact to group earnings per share. Lower bond yields mean they earn lower returns from some parts of their investment portfolios. Stocks to consider – SUN, IAG.
- Online (classified). Online classified firms REA Group (REA) and Car Group (CAR) could be beneficiaries, with the impact to earnings potentially more immediate. The interest rate cut may lead to an improvement in the listing volumes for houses and cars. Given the RBA has delivered a relatively balanced (or arguably dovish) rate cut plus indicated further cuts of 0.65% over the next 12 months, we may see sentiment towards making big-ticket purchases improve. Stocks to consider – REA, CAR, SEK.
Ratings agency Moody’s downgrades U.S. credit rating
Global credit ratings agency Moody’s recently decided to downgrade U.S. credit rating from Aaa (its highest quality) by one notch to Aa1. The reason for the downgrade was essentially rising fiscal debt levels in the U.S., which could rise further if President Trump’s new tax cuts are enacted.
Firstly, Moody’s is the last of the major global credit ratings agencies to downgrade U.S. debt. In 2011, S&P downgraded its rating when the U.S. came close to defaulting on its debt before the debt ceiling was raised. And then in 2023, Fitch downgraded their rating on U.S. debt when the debt ceiling was raised and then Treasury Secretary Janet Yellen issued a significant amount of debt. Moody’s reason for downgrading now is nothing new and therefore shouldn’t come as a surprise. Whilst it adds another element to the uncertainty, we don’t believe it’s going to materially deter investors from buying U.S. government debt. In fact, foreign holders of U.S. Treasuries (debt) continue to climb, recently driven by Norway & the UK.
Secondly, the first downgrade of U.S. debt by S&P was a materially more important event, because at the time many financial contracts and loan agreements (e.g. collateral for hedge funds) mandated only the highest rated debt as collateral (like AAA rated U.S. debt). When this debt was downgraded, these contracts were in violation of their terms & conditions. But since then, contracts have altered their mandates and therefore downgrades of U.S. debt credit worthiness has had a lesser impact. While the short-term impacts may be more muted than expected, we suspect long-term impact could still be material.