US inflation data eyed as investors unwind Fed rate-hike bets

The latest US CPI data are due out on Wednesday, at 1330 GMT. Given recent speculation that the Fed will pause its tightening cycle
in 2019, these figures may be crucial in shaping market expectations ahead of the Fed’s December meeting and thereby, in determining the dollar’s near-term direction. Any updates in the US-China trade saga can also affect the greenback.

The dollar has been struggling over the past few weeks, amid growing speculation that the Fed is set to pause its rate-hike cycle in 2019 as US economic growth slows, and in the context of a slowing global economy. Even though US economic data are hardly signaling as much, investors have nevertheless become quite confident that a pause will indeed take place.

The Fed is still expected to raise rates by a quarter-point at next week’s meeting, a prospect priced in with a 76% probability according to the Fed funds futures. Looking further out however, expectations are much more pessimistic. Assuming a December increase does take place, then market pricing suggests a mere 50% chance for another hike in the entire of 2019. This is quite some way from the Fed’s latest “dot plot”, which points to 3 hikes for the year. In truth, those projections could well be revised lower to signal 2 hikes in 2019 at next week’s meeting, but even so, the discrepancy between what policymakers and investors anticipate would still be enormous.

In such conditions, economic data could decide whether the Fed revises lower its own rate forecasts to match the market, or whether it will be investors who adjust their expectations closer to the Fed’s. Turning to this week’s releases, the nation’s CPI rate is forecast to have dipped to 2.2% y/y in November, from 2.5% previously. Yet, the core figure – which excludes volatile food and energy items – is projected to have ticked higher to 2.2% y/y, from 2.1% in October. Thus, most of the softness in the headline print seems owed to the recent dip in energy prices, which typically isn’t that worrisome for the Fed.

Outside of monetary policy, the other key variable for the dollar will be how trade tensions evolve. The greenback has acted as a haven asset amid US-China frictions, gaining when the situation escalates and falling on any de-escalation. In this sense, although the US-China “truce” was a welcome sign, it may not ultimately mean much if China doesn’t compromise on the key issue: forced technology transfer. Until – and if – there are such concessions, an eventual re-escalation remains the most likely scenario. Not to mention the US could announce tariffs on cars at any moment, starting a new standoff with the EU. The implication is that the dollar may still enjoy pockets of strength from trade concerns, even if the Fed does shift to a more cautious stance going forward.

Technically, advances in dollar/yen may meet initial resistance near the December 10 high, at 113.35. An upside break could open the way for the 114.05 territory, defined by the peak of November 27, before the one-year high of 114.54 comes into view.

On the flipside, support to declines could come around the crossroads of the 112.30 area, the uptrend line drawn from the lows of May 29, and the 100-day simple moving average. A bearish violation may see scope for a test of the October 26 low at 111.35, ahead of the September 7 trough at 110.35.