Australia dollar gains as heated inflation stokes rate rise risk

By Wayne Cole

SYDNEY, Feb 25 (Reuters) - The Australian dollar gained ground on Wednesday after a surprisingly high reading of core inflation led markets to narrow the odds on another rate hike, further widening yield spreads in its favour.

Markets now imply around an 80% chance the Reserve Bank of Australia will lift its 3.85% cash rate by 25 basis points in May, and are fully priced for a move by June. 0#AUDIRPR

The Aussie added 0.2% to $0.7075 AUD=D3, having found support around $0.7020 overnight. Resistance lies at $0.7112 and it needs to clear the recent three-year top of $0.71465 to get the uptrend moving again.

Consumer price data for January showed a 0.4% rise in the month which kept the annual pace at 3.8%, in part due to higher housing and health costs.

The key trimmed mean measure of core inflation rose 0.3% and the annual pace picked up to 3.4%, topping forecasts and the highest reading since the third quarter of 2024.

That was the seventh straight month it has been above the RBA's target band of 2% to 3% and added to the risk of a high outcome for the March quarter as a whole.

"Tight labour market conditions and elevated wage growth, alongside ongoing inflationary pressures, are likely to keep the Reserve Bank of Australia on a tightening path," said Wee Khoon Chong, APAC macro strategist at BNY.

"We see a risk that the RBA turns more hawkish and exceeds market rate expectations, so we expect further AUD outperformance versus peers."

RBA Governor Michele Bullock will have a chance to offer her own reaction to the January CPI when appearing at a Melbourne University event later on Wednesday.

Three-year bond futures YTTc1 slipped 3 ticks to 95.725, while 10-year bond yields AU10YT=RR rose 2 basis points to 4.716% to be a tempting 68 basis points above U.S. Treasuries.

The kiwi dollar was a fraction firmer at $0.5968 NZD=D3, after support at $0.5940 held for the fourth straight session overnight. Resistance comes in at $0.6003 and $0.6053.

The Reserve Bank of New Zealand has signalled it is in no hurry to raise its 2.25% cash rate, having only finished a long easing campaign back in November. Markets no longer see much chance of a first rate rise until October or December. 0#NZDIRPR