Yesterday’s US inflation reading made the Federal Reserve's job even harder as it prepares to announce another rate hike today. Core CPI dropped to 6.0% year-on-year, and headline to 7.1% in November, prompting a new round of dovish speculation on the Fed’s rate path. The market’s pricing for today’s announcement has remained anchored to 50bp, and it’s fair to believe that investors’ reaction will be primarily driven by the forward-looking language of the statement and of Powell’s press conference. Our base case is that the dollar can recover some of the lost ground if Powell delivers a broadly hawkish message.
The US dollar fell to a six-day low against the Canadian dollar yesterday near 1.3520. However, the Canadian dollar continued its underperformance, and its 0.67% gain was the least among the G10. Crude prices have firmed modestly but generally firmer commodity prices over the past week have not extended the CAD much in the way of obvious support. We think USD/CAD is likely to hold in a choppy range between 1.35-1.37. A more significant and durable rebound in risk appetite is still needed to lift the CAD more substantially. A break of C1.35 would signal the next leg down, but we are inclined to see a move above 1.3580 into the 1.3600-20 range. Observe the USD/CAD trends.
EUR/USD is consolidating above 1.0600 after the post-US CPI knee-jerk reaction brought it to a 1.0660 high. Today’s FOMC announcement will tell us whether the Fed can still offer some support to the dollar, and tomorrow’s European Central Bank announcement may give hints about balance sheet reduction. However, the Lagarde effect on EUR/USD should be significantly smaller and shorter-lasting than the Powell effect. A dovish Fed today could open the door for a rally to 1.0800 before Christmas.
Inflation has started to decelerate in the UK. The November reading, released this morning, showed a smaller-than-expected month-on-month CPI reading (0.4% vs expected 0.6%), which brings the YoY number to 10.7% from 11.1% in October. Core inflation slowed from 6.5% to 6.3%. The pound’s reaction to the data has been quite muted, which is not surprising given the wait-and-see approach ahead of today’s FOMC risk event and since the inflation figures do not suggest a different outcome for tomorrow’s Bank of England meeting. Consensus and markets are expecting a 50bp hike. Today, the GBP will be primarily moved by the FOMC reaction.
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