An American Trilogy

• USD and Treasury yields continue to power forward. Republicans complete trifecta with House majority.

• Investors should continue to lean into the “Trump trade”. Dollar, Treasury yields and US stocks higher.

• Australia’s October labor force report was soft but does not move the needle on RBA policy rate expectations.

USD continues to power forward against most currencies while the sell-off in Treasuries deepened. The dollar index (DXY) hit a one-year high, 10-year Treasury yields rose to around 4.46% (highest since July 1) and 2-year Treasury yields edged-up to 4.36% (highest since July 31). Republicans won a majority of seats in the House of Representatives, thereby securing control of both chambers of Congress (Senate and House). This means President-elect Donald Trump will face limited political gridlock to implement his fiscal and regulatory wish list.

As such, investors should continue to lean into USD strength. First, the U.S. economy is in a sweet spot and outperforming other advanced economies. Second, the prospect for looser fiscal policy under a Trump administration will force the Fed to keep policy restrictive for longer. Third, expectations for a lower U.S. corporate tax rate and a wave of deregulation should boost foreign portfolio and FDI flows to the U.S. Fourth, the favorable U.S. productivity landscape will lead to low inflationary economic growth which translates to higher real interest rate.

U.S. October CPI matched consensus and keeps odds of a December Fed funds rate cut well in play (over 80% priced-in). Headline CPI rose 0.2% m/m and increased 0.2pts to 2.6% y/y. More importantly, underlying inflation remains stubbornly high and that's why the Fed removed that crucial phrase about greater confidence in meeting its inflation target from its FOMC November statement. Core CPI rose 0.3% m/m and printed at 3.3% y/y for a second consecutive month. Super core CPI (core services less housing) increased 0.3% m/m vs. 0.4% in September and 4.4% y/y vs. 4.3% in September.

Meanwhile, Fed officials keep sounding cautious on the easing cycle. St. Louis Fed President Musalem (2025 voter) said “it is appropriate for monetary policy to remain moderately restrictive while inflation remains above the FOMC’s 2% target.” Kansas City Fed President Schmid (2025 voter) noted “while now is the time to begin dialing back the restrictiveness of monetary policy, it remains to be seen how much further interest rates will decline or where they might eventually settle.”

Finally, Dallas Fed President Lorie Logan (non-voter) highlighted three risks that pose the largest potential challenges for monetary policy in the months ahead: (i) unexpectedly strong demand or negative supply shocks could keep inflation above the FOMC’s 2% goal; (ii) tightening financial conditions could trigger a rapid deterioration in the labor market; (iii) financial conditions could ease too much if the neutral interest rate proves to be higher than expected.

Fed speakers today include: Fed Governor Kugler (12:00pm London), Richmond Fed President Barkin (voter) (2:00pm London), Fed Chair Powell (8:00pm London), New York Fed President Williams (9:45pm London).

The U.S. October PPI print is the data highlight (1:30pm London). Headline PPI is expected to rise 0.5pts to 2.3%y/y while core PPI is projected to rise 0.2pts to 3.0% y/y. Watch-out for PPI services ex-trade, transportation, and warehousing because it feeds into the core PCE calculations. Another sticky print above 4% y/y poses an upside risk to PCE inflation.

EUR/USD plunged to a one-year low around 1.0535, with the next technical support offered at 1.0500. We don’t expect material financial market reaction from the Eurozone second Q3 GDP estimate (10:00am London) and the ECB Account of the October 16-17 meeting (12:30pm London). At that meeting, the ECB cut rates 25bps for the second straight meeting but stuck to its data-dependent guidance reiterating it “is not pre-committing to a particular rate path.” However, the bar for additional ECB easing is low as the ECB noted “the disinflationary process is well on track” while President Lagarde reiterated that risks to economic growth are tilted to the downside. Moreover, Lagarde confirmed the decision to was unanimous and highlighted there was more downside than upside risks to inflation. Markets are pricing-in 175bps of additional ECB rate cuts over the next twelve months that would see the policy rate bottom at 1.50%.

GBP/USD is down to its lowest level since early August on USD strength while EUR/GBP is trading heavy around 0.8300. Improving U.K. housing market activity supports the case for a gradual Bank of England (BOE) easing cycle. The October RICS residential market survey showed the proportion of surveyors reporting a rise in prices minus those reporting a fall rose to a two-year high at 16% vs. a reading of 11% in September. Overall, the relative monetary policy trend between the ECB and BOE still favors a lower EUR/GBP. BOE speakers today include: Mann (1:00pm London) and Governor Bailey (9:00pm London).

USD/JPY made fresh multi-month highs above 156.00. We expect Japanese officials to ramp-up currency jawboning as we approach intervention zone around 160.00. Regardless, USD/JPY uptrend is intact supported by widening real US-Japan 10-year bond yields spreads.

AUD/USD is breaking lower on broad USD strength and lower iron ore prices. Australia’s October labor force report was soft but does not move the needle on RBA policy rate expectations. Employment rose 15.9k (consensus: 25k, prior: 61.3k) driven by a 9.7k rise in full-time jobs and 6.2k increase in part-time jobs. The unemployment rate printed at 4.1% for a third consecutive month and is tracking below the RBA’s December projection of 4.3%.

The RBA’s view is that “further falls in vacancies can still occur alongside a relatively modest increase in the unemployment rate”, suggesting it’s in no hurry to start easing. Indeed, RBA Governor Michele Bullock reminded participants during a panel discussion overnight “we’re going to stay restrictive enough until we think we’ve definitely got that downward trajectory [on inflation].” RBA cash rate futures priced-in 76% probability of a first 25bps cut in May 2025.

Banco de Mexico meets today and is expected to cut rates 25bps to 10.25% (7:00pm London). At the last meeting September 26, Banco de Mexico cut rates 25bps as expected to 10.50%. The vote was 4-1, with the lone dissent in favor of steady rates. The bank warned that the balance of risks to growth were to the downside and said the inflation environment would permit further cuts ahead. Since then, core CPI inflation eased to a four-year low of 3.8% y/y in October. The swaps market is pricing in over 125bps of total easing over the next 12 months that would see the policy rate bottom near 9.00%.