Market Update - 05 August 2026

What Falling Inflation Could Mean for Interest Rates and Investment Markets

Australian inflation data has provided the Reserve Bank with much-needed breathing room, while global markets shift their focus toward capital discipline in the technology sector. This update examines how cooling domestic prices and a bifurcation in US earnings are rewarding diversified portfolios and active management.

Late July was another round trip for markets, with the NASDAQ and chip-heavy emerging markets down 4–5% before recovering most losses. For the month, weakness was concentrated in Korean chipmakers, now around 28–32% of the emerging markets index, while Australia rose about 2%. Uncertainty centred on geopolitics, a shift in US monetary policy and a reporting season showing investors are judging big tech’s AI spending very differently.

Locally, June-quarter CPI was the key release and it favoured the RBA. Trimmed mean inflation rose 0.8%, below consensus, taking the annual rate to 3.6% and below the RBA’s 3.8% forecast, while headline monthly inflation fell 0.1%. Softer fuel, travel and new-dwelling costs drove the result. With inflation easing and labour and housing also cooling, markets reduced expectations of further hikes, the Aussie dollar moved back above US70c and the 10-year yield finished near 5%.

The Federal Reserve also held rates, despite three regional presidents favouring a hike. Chair Kevin Warsh gave no forward guidance, reinforcing a tougher, more hands-off regime. Bond markets steepened sharply: short-end yields fell as hike expectations eased, while 30-year yields rose about 11 basis points to 5.2%, signalling concern about inflation and confidence in the Fed’s willingness to act. The Bank of England also held at 3.75%, while Japanese authorities and the Fed intervened to support the yen.

US reporting season made one thing clear: markets are rewarding capital discipline. Microsoft rose 17% after beating revenue expectations while spending less than expected, while Meta fell 9% despite strong results as costs surged and capex guidance raised free cash flow concerns. Apple briefly passed US$5 trillion in value before falling up to 11% after cutting its outlook due to memory-chip shortages, a supply issue rather than demand weakness. S&P 500 earnings remain strong, but investors are focused on the cost of producing them.

Oil remained the key economic swing factor. Brent fell near US$84 as the US–Iran truce held, then moved back above US$90 after Iranian missile fire on US forces in Jordan, ending the week just over US$89 amid signs talks may resume.

Equity volatility remained concentrated in AI-related stocks. Chipmakers sold off early, Korea’s KOSPI is down roughly a third this month, then rebounded late, while the MSCI World index sat only about 2% below its highs. This looks more like a sector issue than broad selling. Hunt also noted global liquidity growth may be fading, while Japanese and euro-zone banks increased sovereign bond purchases, supporting relative valuations in markets less exposed to the Gulf inflation shock.

Beneath the index moves, “backwater” trades began to matter again. Much of this year’s gains have followed liquidity, sentiment and momentum, while strong company fundamentals were often ignored. Last month that started to shift. A quality-growth small-cap manager many clients will recognise outperformed by around 8%, active emerging market managers rose 4–5% while the index fell 10% because they avoided Korea, and a deep value manager added almost 8% as MSCI World fell 2%. Locally, Domino’s rose 20% on a solid update, though Australian mid- and small-cap growth saw less benefit as banks and resources led. The rotation is not universal, but fundamentals and diversification are starting to reassert themselves.

On bonds, Andrew Hunt outlined three possible paths: a slow sell-off that forces tighter policy, a sharp sell-off followed by a long rally, or his base case of an initial sell-off, a six-to-nine-month rally once credit cracks, then a longer bear market. We remain moderately underweight duration for now, but the long end bears close watching.

In summary, domestic inflation is moving in the right direction, giving the RBA room to remain patient, while offshore volatility is still concentrated in AI-linked stocks and long-dated bonds. A strong US earnings season is rewarding careful spenders, and real diversification is beginning to pay through both lower volatility and renewed upside from managers that have recently struggled. For much of the year that positioning felt like FOMO; last month showed the other side of staying clear of the biggest liquidity-driven cross-currents.