Dollar Stabilizes But Remains Vulnerable After CPI Data

January 13, 2023
  • U.S. yields remain lower in the wake of the CPI data; December CPI data supported the less hawkish Fed theme; Fed officials remain hawkish; preliminary January University of Michigan consumer sentiment will be closely watched; weekly jobless claims suggest the labor market remains strong
  • November eurozone IP and trade data were reported; the monthly U.K. data dump began; Sweden December CPI ran hot
  • Markets continue to test the BOJ; BOJ tightening expectations remain elevated; China reported soft December trade data; Korea hiked rates 25 bp to 3.5%, as expected

The dollar is stabilizing after the CPI data. DXY is up slightly after two straight down days and trading near 102.427 after making a new cycle low near 101.988 earlier today. Next target is the May low near 101.297. The euro is trading flat near $1.08 after trading at a marginal new cycle high today near $1.0870. Break above the May high near $1.0785 sets up a test of the late April high near $1.0935. Sterling is trading back below $1.22 after running into resistance near $1.2250 but the break above $1.2215 sets up a test of the December high near $1.2445. USD/JPY is trading at a new cycle low near 128.75 and the break below the January low near 129.50 sets up a test of the May low near 126.35. While we believe that the current dollar weakness is overdone, we have to respect the price action. Until a more hawkish Fed narrative emerges, the dollar is likely to remain under pressure.


U.S. yields remain lower in the wake of the CPI data. The 10-year yield is trading near 3.47% and traded as low as 3.42% yesterday, while the 2-year yield is trading near 4.14% and traded as low as 4.11% yesterday. While we continue to disagree with the market’s dovish take on the Fed, we have to respect the price action and acknowledge that this narrative is taking a toll on the dollar. However, developments abroad suggest the fight against inflation is far from over and that markets are underestimating the “higher for longer” story for global monetary policy. Sweden reported higher than expected inflation today (see below) and follows a similar dynamic for Norway earlier this week.

December CPI data supported the less hawkish Fed theme. Headline came in as expected at 6.5% y/y vs. 7.1% in November and core came in as expected at 5.7% y/y vs. 6.0% in November. This continues headline inflation’s steady decline from the 9.1% peak in June and core inflation’s more recent decline from the 6.6% peak in September. However, core PCE has largely been in a 4.5-5.5% range since November 2021 and we think the Fed needs to see further improvement before even contemplating any sort of pivot.

Fed officials remain hawkish. Harker said 25 bp hikes will be appropriate going forward as the days of 75 bp are “surely behind us.” While this might sound dovish, he added that he expects “a few more” rate hikes this year. It's often difficult to parse Fed-speak but "a few" likely means four; "several" implies three; "a couple" means two. To us, "a few" implies a Fed Funds ceiling of 5.5% vs. 4.5% currently. Elsewhere, Bullard said the Fed should get rates above 5% as soon as possible and keep them there. Harker speaks again today, along with Kashkari.

We continue to believe markets are underestimating the Fed. WIRP suggests a 25 bp hike February 1 is fully priced in, with only 10% odds of a larger 50 bp move. Another 25 bp hike March 22 is almost priced in, while one last 25 bp hike in Q2 is only 30% priced in. However, the swaps market continues to price in an easing cycle by year-end and we just don’t see that happening.

Preliminary January University of Michigan consumer sentiment will be closely watched. Headline is expected at 60.7 vs. 59.7 in December. If so, this would be the third straight improvement to the highest since April 2022. Consumption has held up relatively well as the strong labor market continues to boost sentiment and incomes. 1-year inflation expectations are seen falling a tick to 4.3%, while 5-year are seen steady at 2.9%. December import/export prices will be reported Friday.

Weekly jobless claims suggest the labor market remains strong. Initial claims came in at 205k vs. 215k expected and a revised 206k (was 204k) the previous week. These readings are the lowest since late September and dragged the 4-week moving average down to 213k, the lowest since mid-October. Next week’s initial claims data will be for the BLS survey week containing the 12th of the month. If claims remain near the lows, one should expect another solid NFP for this month that will follow the 223k posted in December. Bottom line: the Fed still has work to do if it wants to dampen wage pressures.


November eurozone IP and trade data were reported. IP came in at 1.0% m/m vs. 0.5% expected and a revised -1.9% (was -2.0%) in October. The firm reading came despite Italy reporting its IP at -0.3% m/m vs. 0.4% expected and a revised -1.1% (was -1.0%) in October. The eurozone measure was able to post y/y growth of 2.0% in November despite three of the four largest members contracting.

ECB tightening expectations are little changed. WIRP suggests a 50 bp hike February 2 is almost fully priced in, followed by 60% odds of another 50 bp hike March 16. A 25 bp hike May 4 is about 70% priced in, while a last 25 bp hike in Q3 is about 55% priced in that would see the deposit rate peak near 3.5% vs. 3.75% last week. If inflation continues to slow, the expected peak rate is likely to move down to 3.25% and perhaps even to 3.0%, which is where it stood back in mid-December.

The monthly U.K. data dump began. November GDP, IP, services, construction output, and trade were all reported. GDP came in at 0.1% m/m vs. -0.2% expected and 0.5% in October, IP came in as expected at -0.2% m/m vs. a revised -0.1% (was flat) in October, services index came in at 0.2% m/m vs. -0.1% expected and a revised 0.7% (was 0.6%) in October, and construction came in flat m/m vs. -0.3% expected and a revised 0.4% (was 0.8%) in October. Clearly, the October bounce was a temporary outlier as activity resumed contracting. The trade deficit came in at -GBP1.8 bln vs. -GBP2.5 bln expected and a revised -GBP1.5 bln (was -GBP1.8 bln) in October.

BOE tightening expectations remain steady. WIRP suggest nearly 75% odds of a 50 bp hike February 2, while a 25 bp hike March 23 is now priced in rather than 50 bp previously. After that, a 25 bp hike in either Q2 or Q3 is about 80% priced in that would see the bank rate peak near 4.5% vs. 4.75% earlier this week.

Sweden December CPI ran hot. Headline came in at 12.3% y/y vs. 12.0% expected and 11.5% in November, while CPIF came in at 10.2% y/y vs. 9.8% expected and 9.5% in November. Both are new cycle highs and CPIF moves further above the 2% target. At the last policy meeting November 24, the Riksbank hiked rates 75 bp to 2.5% and noted that “The forecast shows that the policy rate will probably be raised further at the beginning of next year and then be just below 3%.” Minutes from the meeting showed Governor Ingves and Deputy Governor Ohlsson had doubts as to whether planned rate hikes would be enough to tame inflation. That seems to be coming true. Next policy meeting is February 9 and will be led by incoming Governor Erik Thedeen after Ingves’ term ended December 31. WIRP suggests another 50 bp hike to 3.0% is fully priced in with nearly 50% odds of a larger 75 bp move, while the swaps market is pricing in a peak policy rate near 3.5%. We believe the Riksbank’s forward guidance will move closer to market expectations at next month’s meeting.


Markets continue to test the Bank of Japan. After the 10-year JGB yield breached the upper limit of YCC to trade as higher as 0.54%, the bank was forced to buy JPY1.8 trln ($14 bln) of 1- to 25-year JGBs at market yields and JPY3.2 trln of 10-year JGBs and JGB futures at a fixed yield of 0.5%. The BOJ said it would conduct additional outright JGB purchases Monday, with the amounts to be determined by market conditions. While the bank theoretically has unlimited firepower to buy JGBs, the BOJ will be unable to sustain this record-breaking pace of bond-buying over the long haul.

BOJ tightening expectations remain elevated. WIRP suggests over 30% odds of liftoff at next week’s meeting, 65% for the March 9-10 meeting, and fully priced in for the April 27-28 meeting. While a hike next week seems unlikely, it’s possible that the BOJ abandons YCC then in order to set up liftoff at the March or April meetings. This is the basic roadmap for tightening that’s been well-established by the Fed. Of note, the BOJ’s balance sheet continues to grow as a result of YCC and we do not foresee Quantitative Tightening until 2024 at the earliest.

China reported soft December trade data. Exports came in at -9.9% y/y vs. -11.1% expected and -8.9% in November, while imports came in at -7.5% y/y vs. -10.0% expected and -10.6% in November. The economy is clearly suffering from both domestic and global headwinds and so further stimulus is expected in Q1. That said, PBOC Vice Governor Xuan said the central bank will avoid injecting massive monetary stimulus into the economy this year as it tries to balance boosting growth, creating jobs, and maintaining price stability.

Bank of Korea hiked rates 25 bp to 3.5%, as expected. Governor Rhee said that two board members wanted to keep rates steady and noted that the bank will consider further hikes if needed. He said “I don’t think it’s right to interpret from this decision that the rate will be frozen.” Rhee added that three board members saw 3.5% as the terminal rate while three others saw the terminal rate at 3.75%. The swaps market is pricing in a peak policy rate near 3.5% but we think one more hike to 3.75% is likely.

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