How to replace substrings in windows batch file

SET string=bath Abath Bbath XYZbathABC
SET modified=%string:bath=hello%
ECHO %string%
ECHO %modified%

EDIT

Didn't see at first that you wanted the replacement to be preceded by reading the string from a file.

Well, with a batch file you don't have much facility of working on files. In this particular case, you'd have to read a line, perform the replacement, then output the modified line, and then... What then? If you need to replace all the ocurrences of 'bath' in all the file, then you'll have to use a loop:

@ECHO OFF
SETLOCAL DISABLEDELAYEDEXPANSION
FOR /F %%L IN (file.txt) DO (
  SET "line=%%L"
  SETLOCAL ENABLEDELAYEDEXPANSION
  ECHO !line:bath=hello!
  ENDLOCAL
)
ENDLOCAL

You can add a redirection to a file:

  ECHO !line:bath=hello!>>file2.txt

Or you can apply the redirection to the batch file. It must be a different file.

EDIT 2

Added proper toggling of delayed expansion for correct processing of some characters that have special meaning with batch script syntax, like !, ^ et al. (Thanks, jeb!)

To avoid blank line skipping (give readability in conf file) I combine aflat and jeb answer (here) to something like this:

@echo off
setlocal enabledelayedexpansion
set INTEXTFILE=test.txt
set OUTTEXTFILE=test_out.txt
set SEARCHTEXT=bath
set REPLACETEXT=hello
set OUTPUTLINE=

for /f "tokens=1,* delims=¶" %%A in ( '"findstr /n ^^ %INTEXTFILE%"') do (
   SET string=%%A
   for /f "delims=: tokens=1,*" %%a in ("!string!") do set "string=%%b"
   if  "!string!" == "" (
       echo.>>%OUTTEXTFILE%
   ) else (
      SET modified=!string:%SEARCHTEXT%=%REPLACETEXT%!
      echo !modified! >> %OUTTEXTFILE%
  )
)
del %INTEXTFILE%
rename %OUTTEXTFILE% %INTEXTFILE%

To avoid problems with the batch parser (e.g. exclamation point), look at Problem with search and replace batch file.

Following modification of aflat's script will include special characters like exclamation points.

@echo off
setlocal DisableDelayedExpansion
set INTEXTFILE=test.txt
set OUTTEXTFILE=test_out.txt
set SEARCHTEXT=bath
set REPLACETEXT=hello
set OUTPUTLINE=

for /f "tokens=1,* delims=¶" %%A in ( '"type %INTEXTFILE%"') do (
    SET string=%%A
    setlocal EnableDelayedExpansion
    SET modified=!string:%SEARCHTEXT%=%REPLACETEXT%!

    >> %OUTTEXTFILE% echo(!modified!
    endlocal
)
del %INTEXTFILE%
rename %OUTTEXTFILE% %INTEXTFILE%

I have made a function for that, you only call it in a batch program within needing to code more.

The working is basically the same as the others, as it's the best way to do it.
Here's the link where I have that function

To avoid blank line skipping just replace this:

echo !modified! >> %OUTTEXTFILE%

with this:

echo.!modified! >> %OUTTEXTFILE%