SYDNEY (AFP) - The Australian police on Wednesday said an "imminent" terror attack has been foiled in Sydney, with two men charged and a machete, a hunting knife, a video, and an Islamic State in Iraq and Syria (ISIS) flag seized.

New South Wales Deputy Police Commissioner Catherine Burn said it would be alleged that the attack being planned was "consistent with the messaging coming out of ISIS".

Asked whether the planned attack was a beheading, Ms Burn said police were as yet unsure of its nature but that it was imminent, and likely to have involved a knife.

"We believe that the men were potentially going to harm somebody, maybe even kill somebody, and potentially using one of the items that we identified and recovered yesterday, potentially a knife," she said.

"A number of items were located including a machete, a hunting knife, a home-made flag representing the prescribed terrorist organisation ISIS, and also a video which depicted a man talking about carrying out an attack," said Ms Burn.

"We will allege that both of these men were preparing to do this act yesterday. We built up information, we received further information which indicated an attack was imminent. And we acted."

Ms Burn said she did not know the exact nature of the target in this week's alleged attack, but that one of those arrested featured in the video seized.

"We can't go into the details of what was actually said in that message," she said. "However, the intent is clear and the intent is what I have told you today."

The men were not known to police, she added.

Attorney-General George Brandis told parliament the video allegedly showed "one suspect kneeling in front of an ISIS flag, with the knife and machete, making a politically motivated statement, threatening to undertake violent acts with those weapons".

Prime Minister Tony Abbott said the video was in Arabic and that "regrettably there are people out there, some living in our midst, who would do us harm".

But he added that the government was "maintaining a ceaseless vigilance against" such people.

Mr Baird said a potentially "catastrophic" incident had been avoided.

"It was beyond disturbing, what was planned," he told reporters. "Certainly, something catastrophic was avoided yesterday and for that we should be very thankful."

Australia in September raised its terror threat level, and carried out extensive raids in Sydney and Brisbane to disrupt an alleged plot by ISIS supporters to abduct and behead a member of the public.

ISIS is a brutal extremist organisation that has captured swathes of territory across Iraq and Syria and sucked in increasing numbers of radicalised Australians to its cause.

In December, Sydney was rocked by a siege at cafe by Iranian-born Man Haron Monis, a self-styled cleric with a history of extremist views.

He took 17 people hostage for some 16 hours, with the siege ending after Monis shot dead cafe manager Tori Johnson, prompting police to storm the building and kill him. Another hostage died in the crossfire.

Prime Minister Tony Abbott on Monday reiterated that the cafe siege was inspired by the ISIS "death cult".