• Fed repricing continues apace; Fed officials are likely to remain cautious; October CPI data will be the highlight; Fed Q3 SLOOS was mixed; New York Fed inflation expectations for October continue to fall
  
• Bundesbank President Nagel warned that U.S. tariffs would hit the German economy hard; BOE Chief Economist Pill sounded cautious; Riksbank minutes from November 7 meeting were released
  
• USD/JPY is trading at its highest level since late July on broad dollar strength; Australia Q3 wage price index was reported

The dollar is consolidating ahead of CPI data. DXY is trading flat near 106 after three straight up days. It did trade at a new cycle high near 106.205 and remains on track to test the April high near 106.517. The euro is leading this move lower in the foreign currencies and traded briefly below $1.06 today before recovering to trade higher near $1.0635. Clean break below $1.06 targets the November 2023 low near $1.0515 and then the October 2023 low near $1.0450. USD/JPY is traded at a new cycle high near 155.25 before falling back to 154.80, with markets likely to perceive higher intervention risks above 155 (see below). Lastly, sterling is trading lower near $1.2755 and is on track to test the August low near $1.2665. We look for the dollar rally to continue. While the election results have turbo-charged this move, faithful readers will recall that we have been resolute in our belief that the strong U.S. fundamental story continues to favor higher UST yields and a higher dollar. Despite the 25 bp cut last week, we believe the Fed will continue to take a cautious tone going forward, especially in light of what we view as heightened inflation risks in a second Trump term. Market pricing has already adjusted (see below), which is giving the dollar a huge lift. Today’s CPI data will be key.

AMERICAS

The magnitude of this current move in DXY is nearing that of the move we saw back in 2023. So far, DXY is up 6% off the September low. Back in 2023, DXY gained 8% from the July low to the October peak. We think this dollar move still has legs and DXY is on track to test the April high near 106.517. After that is the November 2023 high near 107.113 and then the October 2023 high near 107.348.
Fed repricing continues apace. The Fed Funds futures market sees 60% odds of a December cut while OIS sees around 50%. Furthermore, the market is pricing in 50-75 bp of total easing over the next 12 months, as well as the policy rate bottoming near 3.75%. Both are new lows but of course, these odds will evolve in the coming weeks. Before the next FOMC meeting December 17-18, we get one more jobs report and two more CPI, PPI, and retail sales reports.

Fed officials are likely to remain cautious. Kashkari said "The expectation is that we would do another interest rate cut in December. We need to see what the data actually looks like before reaching any conclusions. That's six weeks from now. But I think another rate cut is certainly possible." Elsewhere, Barkin said “A strong but choosier consumer, coupled with a more productive and better valued workforce has landed the economy in a good place. The Fed is in position to respond appropriately regardless of how the economy evolves.” Kashkari, Williams, Logan, Musalem, and Schmid speak today.

October CPI data will be the highlight. Headline is expected to pick up two ticks to 2.6% y/y while core is expected to remain steady at 3.3% y/y. Consensus is in line with the Cleveland Fed’s Nowcast model. Looking ahead to November, that model sees headline and core at 2.7% and 3.3%, respectively. While inflation has eased significantly over the past two years, the Fed is clearly more cautious about the inflation outlook as its FOMC statement last week scrapped the previous reference that it had gained greater confidence that inflation is moving sustainably toward 2%.

PPI will be reported tomorrow. Headline is expected to pick up half a point to 2.3% y/y while core is expected to pick up two ticks to 3.0% y/y. Watch out for PPI services ex-trade, transportation, and warehousing, as it feeds into the core PCE calculations. Another sticky print above 4% y/y poses an upside risk to PCE inflation.

Fed Q3 Senior Loan Officer Opinion Survey was mixed. The net share of banks that saw tighter credit standards compared to the previous quarter for large and medium firms fell to 0.0% vs. 7.9% previously. However, the net share of banks that saw tighter credit standards compared to the previous quarter for small firms rose to 13.3% from 8.2% previously. We expect the improving trend to continue into 2025, as the September FOMC meeting noted that credit remained generally accessible to most corporate and consumer borrowers.

New York Fed inflation expectations for October continue to fall. 1-year expectations fell a tick to 2.9%, a 4-year low. Expectations also fell at the longer end, with 3-year at 2.5% vs. 2.7% in September and 5-year at 2.8% vs. 2.9% in September. The Fed will be happy to see the ongoing fall in expectations but will also want to see further progress on actual inflation. We’ll know more after today’s CPI report.

EUROPE/MIDDLE EAST/AFRICA

Bundesbank President Nagel warned that U.S. tariffs would hit the German economy heard. Specifically, Nagel said “If the tariff plans are implemented, it could cost us 1% of economic output. That’s very painful when you consider that our economy won’t grow at all this year and probably less than 1% next year even before a U.S. tariff plan. If the new levies are actually imposed, we could even slip into negative territory.” The problem is that political paralysis in Germany is preventing any fiscal response to the slowdown and so the ECB will have to do the heavy lifting in terms of supporting the economy. The swaps market is now pricing in 125-150 bp of ECB easing over the 12 months that would see the policy rate bottom between 1.75-2.0%.

The euro is leading this move lower in the foreign currencies. It briefly traded below the April low near $1.06. Clean break below targets the November 2023 low near $1.0515 and then the October 2023 low near $1.0450.

Bank of England Chief Economist Pill sounded cautious. He warned that wage growth “remains quite sticky” at “elevated levels” and are “hard to reconcile with the U.K. inflation target.” Pill added that “We have seen a substantial disinflation in the UK economy, and that has allowed monetary policy restriction to be reduced. That does not mean it is job done. From our perspective, there remains some underlying inflationary pressures in the UK economy.” The market responded by slashing the odds of a 25 bp cut in December to about 15%, while the OIS curve sees the policy rate bottoming between 4.0-4.25% over the next 12 months. Mann speaks today.

Despite a relatively hawkish BOE, sterling has come under greater pressure. Cable broke below the 200-day moving average yesterday for the first time since May and is on track to test the August low near $1.2665. After that is the June low near $1.2615 but the clean break below $1.2825 sets up a test of the May low near $1.2445.

Riksbank minutes from November 7 meeting were released. At that meeting, the Riksbank cut rates 50 bp to 2.75%, as expected. The minutes confirmed that the decision was unanimous. However, a couple of board members (Deputy Governor Jansson and First Deputy Governor Breman) were more worried about upside risk to inflation from the recent weakness in the krona. The market is pricing in about 100 bp of easing over the next 12 months, which would see the policy rate bottom near 1.75% vs. the Riksbank’s 2.25% forecast. In our view, there is room for interest rate futures to converge towards the Riksbank’s forecast because underlying inflation is stabilizing around the 2% inflation target. An upward adjustment to Sweden interest rate expectations should cushion the decline in SEK, particularly on the crosses. Its Financial Stability Report is published tomorrow.

ASIA

USD/JPY is trading at its highest level since late July on broad dollar strength. The pair is on track to test the July high near 162 and at levels above 155, markets will perceive heightened intervention risks. The Bank of Japan has not intervened in the FX market since mid-July, when USD/JPY was trading above 160. Yet as we have seen time and time again this cycle, intervention will have little lasting impact as long as monetary policy divergences persist or, as we are seeing now, widen. On the Fed side, market expectations for easing have been taken back significantly. On the BOJ side, there has been a slight upward shift in market tightening expectations but not by enough to offset the movement on the Fed side. Only 40 bp of total tightening by the BOJ is seen over the next 12 months.

Australia Q3 wage price index was reported. Nominal wage growth ex-bonuses came in at 0.8% q/q vs. 0.8% in Q2, while the y/y rate came in at 3.5% y/y vs. 4.1% in Q2. Both were a tick lower than expected and reflects some easing in labor market conditions. The breakdown shows private sector wage growth slowed 0.6 ticks to a two-year low of 3.5% y/y while wages in the public sector fell 0.2 ticks to a one-year low of 3.7% y/y. Moreover, the proportion of jobs with annualized wage changes over 4% fell to a two-year low of 31% in Q3. However, the market cut the odds of a 25 bp cut in May 2025 to 65% from 100% last week, as wage growth is still tracking above the RBA’s projection of 3.4% y/y by December. Also, wage growth remains high relative to productivity growth (0.8% y/y in Q2) and puts upward pressure on inflation.