Rightly or wrongly, the market is pricing in the full extent of two cash rate rises this year, while outliers like AMP’s chief economist Shane Oliver expect the Reserve Bank of Australia (RBA) to keep interest rates on hold at 3.60% throughout 2026.
While inflation remains too elevated for the RBA to adopt an easing bias, Oliver believes the modest slowdown in underlying inflation in November gives the central bank breathing room, while economic data continues to deliver mixed signals.
“The money market’s expectations for rate hikes have cooled a bit with only a 24 per cent probability of a February hike now priced in but still looks too hawkish for the year as a whole,” Oliver said.
“Our expectation is for trimmed mean inflation around 0.8 per cent qoq [quarter on quarter] or 3.2 per cent yoy 2026 which would be in line with the RBA’s last set of forecasts and should allow the RBA to sit tight on rates.”
However, assuming Oliver is wrong, and the RBA does decide to raise rates - while virtually all other global economies are cutting - now could be a good time to increase overall allocation to fixed income through attractive options like floating rate bonds, low-risk bonds and others.
Australia aside, the only other major central bank with plans for multiple interest rate hikes this year is Japan, in an attempt to normalise its long-standing ultra-easy monetary policy.
If you’re new to bonds, it’s important to remember that a rate hike will lead to a decrease in the price of existing fixed-rate bonds.
This occurs because newly issued bonds will offer higher coupon rates, making older, lower-yielding bonds less attractive and forcing them to trade at a discount.
But regardless of what happens to our cash rate this year, bond yields – that are considerably higher than they were only a few months ago – present good opportunities for those looking to recycle or deploy cash.
So exactly where can these opportunities be found within the fixed income market?
With the Australian market now factoring a decent period of rate rises, head of research at FIIG Securities, Philip Brown, expects to see periods where solid yields of 6% and more are available for low-risk bonds.
Brown reminds investors that rising cash rates would also see floating rate bonds – a popular choice during rising interest rate cycles – provide higher returns.
Adding an extra kicker, these returns would be a corresponding rise in inflation alongside the cash rate.
While consumer inflation expectations remain high, recorded at 4.6% in January 2026, analysts project headline inflation to sit around 3.1% for the 2026 calendar year, eventually easing toward 2.75% by mid-year or the 2026/27 financial period.
That’s encouraging, but if you’re still looking for more direct inflation protection, it could be worth taking a look at inflation-linked bonds like Capital Index Bonds (CIBs) or Index Annuity Bonds (IAB), with many of the longer-term yields on these looking relatively attractive.
“Investors must decide whether they are happy to lock in attractive fixed yields and risk short-term volatility in the capital price, or if capital preservation is more important to them and they want to focus on floating rate notes and not have a guaranteed coupon rate,” notes Brown.
If you believe the RBA will raise rates in 2026, Brown also suggests investors consider sector diversification to offset underlying pressure points that are likely to surface in the economy.
Currently sitting at 3.60% after being left unchanged in December, the next RBA board meeting and official cash rate announcement is scheduled for 3 February.
However, December quarter inflation data, due for release on 28 January, should not only provide meaningful clues on RBA thinking but also set the tone for the next few months.
Given that exchange rate volatility – assuming the Australian dollar strengthens - makes offshore investments more risky – this is another reason why domestic fixed income looks better positioned to outperform other economies across the coming quarters.
