CPI release

FX Daily: Jumping on the inflation swing Today’s CPI release in the US is arguably the biggest risk event of the week. This is because it can tilt the balance ahead of a 'toss-up' FOMC announcement tomorrow, and because anything ECB related may well play second fiddle to moves in USD rates. A 0.4% MoM core consensus read should, in our view, allow the Fed to stay on hold, but may not hit the dollar just yet.   USD: Small deviations in core inflation can have huge implications The currency and rates markets approached this week with a very elevated beta to data releases as markets remained on the lookout for hints on the activity and employment outlook ahead of the Fed’s policy announcement tomorrow. Inflation, however, remains the single most important input in the FOMC’s decision-making equation, and today’s CPI numbers for May likely have a make-or-break potential for a 25bp hike tomorrow, which is currently priced in with a 23% implied probability.   The median consensus estimate for the month-on-month core CPI read – which will effectively move markets – is 0.4%, with estimates ranging from 0.3% to 0.5%. A 0.4% MoM print (translating into a 5.2% core year-on-year rate) is also our economics team's call, and one that would in our view allow the majority of FOMC members to favour a hawkish hold over a 25bp hike tomorrow. It would probably take a 0.3% read to price out the residual 23% implied probability of a hike tomorrow, meaning that the dollar does not need to fall much on a consensus print today.   The spectrum of market reaction is much wider in the event of a 0.5% MoM core inflation read. We think the odds would likely swing in favour of a hike tomorrow, and markets could push their implied probability above 50%, sending the dollar higher across the board. The most visible consequence in G10 FX would probably be another jump in USD/JPY (ultra-sensitive to Fed pricing) and a potential break above the 140.90 end-of-May recent highs.   In terms of the headline measure, the consensus is expecting a month-on-month 0.1% change, translating into a slowdown from 4.9% to 4.1% YoY. But it will almost entirely be up to the core rate to drive the market reaction.

Recent range highs broken after CPI release Lower inflation could increase gold’s appeal One more rate hike expected from the Fed   The US inflation data gave gold just the boost it needed to break back above $1,940 after failing to pierce that level in recent days. The yellow metal has been range-bound in recent weeks between $1,900 and $1,940 and today’s report did what the jobs data failed to do; it provided the catalyst for a breakout.     There remains plenty of resistance ahead for gold and today’s move doesn’t necessarily suggest the correction we’ve seen since May is over but it’s a massive step in the right direction. If the inflation data continues to improve then that could be bullish for gold. The next tests for gold are $1,940, $1,960, and $2,000, which roughly represent the 38.2%, 50%, and 61.8% Fibonacci retracement levels from the May high to the June lows. The inflation data may have come too late to change the outcome of the July Fed meeting, especially in light of the June jobs report, but it may alter the central bank’s language if it does hike by another 25 basis points. It’s going to be a big summer of data.    

The Commodities Feed: Middle distillates firm up US economic data proved supportive for crude prices yesterday by signalling that the Federal Reserve could now be nearing the end of its rate hiking cycle. Today's calendar is fairly quiet, with just the usual EIA inventory numbers to note.   Energy – $80/bbl remains in play for Brent Bad news still appears to be good news when it comes to US economic data. US retail sales for June came in below market expectations, whilst industrial production came in much weaker than anticipated. While this will do little to change expectations for a Federal Reserve rate hike next week, it does suggest that it could be the last of the hiking we see from the central bank, particularly following the softer than expected CPI release last week. Oil has reacted positively to the expectation that we are approaching the end of the hiking cycle. ICE Brent settled more than 1.4% higher yesterday, leaving the market in striking distance of the US$80/bbl level. Given the tightening that we expect in the oil market as we move through the second half of this year, we believe it is only a matter of time before Brent moves above US$80/bbl. How convincing this move will be will really depend on whether we see a big shift in speculative sentiment. Whilst we have seen an increase in speculative buying in recent weeks, historically it is still fairly modest, particularly when you consider the tightening that is expected in the physical market US inventory numbers released overnight from the API show that there were draws across the board over the last week. Crude oil inventories fell by 797Mbbls, which was less than the roughly 2.5MMbbls decline the market was expecting. Crude stocks at Cushing fell by 3MMbbls, while gasoline and distillate inventories declined by 2.8MMbbls and 100Mbbls respectively. Overall, the numbers were fairly neutral. The more widely followed Energy Information Administration (EIA) report will be released later today. The middle distillate market remains well supported with the prompt ICE gasoil time spread trading at more than a US$4/t backwardation, whilst the prompt ICE gasoil crack has strengthened to more than US$22/bbl. There has been revived speculative interest in middle distillates recently, with speculators buying almost 23k lots of ICE gasoil over the last reporting week to leave them with a net long just shy of 33k lots. This buying has been driven by a combination of fresh longs as well as short covering. Since early May, speculators have bought more than 65k lots in ICE gasoil. Clearly, sentiment in the market has shifted quite drastically, and this is not too surprising when looking at the drawdown in ARA gasoil inventories in recent weeks. Insights Global data shows that gasoil inventories in ARA have fallen by 577kt since mid-May, leaving stocks at 1.93mt- 16% below the 5-year average. The second batch of Chinese trade data for June was released yesterday, which showed strong exports for gasoline and jet fuel with refiners having increased run rates (up 11% year-on-year). Gasoline exports in June increased 30.7% YoY to 950kt, which takes year-to-date exports to 6.17mt, up 10.9% YoY. Meanwhile, jet fuel exports grew by more than 109% YoY to 1.08mt in June, leaving year-to-date exports at 6.74mt, an increase of 57.3% YoY. Diesel exports over the month were weaker, falling 12.4% YoY to 290kt. However, year-to-date diesel exports are still very strong, up more than 263% YoY to a total of 7.49mt. The latest China trade data also shows that LNG imports in June totalled 5.96mt, up 24% YoY – and this is after imports in May grew 30% YoY. Stronger imports in recent months have made up for the weaker flows seen earlier in the year. As a result, cumulative LNG imports over the first six months of the year totalled 33.62mt, up a little more than 7% YoY. This still leaves us below the roughly 10% import demand growth we were expecting for the year as a whole. China is still very quiet in the spot market, and it appears that term contract volumes are adequate to meet domestic demand. We would likely need to see a recovery in Chinese industrial production before we see stronger LNG demand, as industrial demand makes up the bulk of Chinese natural gas demand.

Rates Spark: Different focus, different outcomes US data disappointments are still putting downward pressure on yields, and a busy calendar suggests more volatility ahead. EUR rates may detach from US dynamics as inflation data and European Central Bank minutes sharpen the focus on the upcoming ECB meeting.   The resilience narrative has driven US rates on the way up, and now down US Treasury yields remain under downward pressure as 10Y yields are trying to get a foothold at around 4.1% – early last week they had hit a high at 4.35%. Bund yields, on the other hand, have managed to bounce off the 2.5% level and as a result, the 10Y UST/Bund spread has tightened to 157bp. The narrative that has driven the wedge between the US and EUR rates is now narrowing it. That is also illustrated when looking at the market moves in real rates. They had been the driver of US rates going up and are now mostly the driver on the way down. 10Y real OIS rates have dropped some 17bp from the recent peak, although inflation swaps also slipped 8bp.       Real rates were the driver the UST/Bund gap, and also the latest retightening   Inflation remains the main preoccupation of EUR rates In Europe, the concerns have been more centred around inflation. Longer real rates never picked up and stuck to a tight range, reflecting the outlook for a longer period of stagnation that was also confirmed by the latest PMIs. Instead we had a slow grind higher in longer-term inflation expectations, picking up pace again with the second quarter. While the often cited 5y5y forward inflation has come off its recent highs, the market remains sensitive to the inflation topic, with the ECB now calibrating the final stage of its tightening cycle. The somewhat slower-than-anticipated decline in German inflation yesterday was important in keeping Bund yields off the 2.5% mark. It provided the ECB’s hawks with arguments for further tightening. Never mind that it could be the last burst of German inflation for a while, as our economist thinks – with the ECB’s current mindset being more focused on actual data than forecasts, that may well be all the more reason for the hawks to push for a hike in September and not wait any longer. It may be the last opportunity. Market pricing now sees the chances for a hike next month a tad above 50%, and 90% that we will see a hike by the end of the year.    Dynamics of inflation expectations played a larger role for EUR rates   Today's events and market view US data disappointments are still putting downward pressure on yields, having stalled any attempt to move these higher over the past sessions. A busy slate of US data featuring Challenger job cuts data, initial jobless claims, personal income and spending data, as well as the Federal Reserve's preferred inflation measure – the PCE deflator, which is seen slightly up this time – means there is plenty in store to push yields around again. EUR rates, however, may manage to detach from the US rates again as the focus turns to the flash eurozone CPI release and the ECB minutes of the July meeting. The latter may provide some more insight into any changes to the balancing of inflation versus macro risks and of course the growing debate between the Council’s hawks and doves. With Isabel Schnabel, there is also a prominent hawk slated to speak in the morning – she gives the opening remarks at a conference titled “Inflation: drivers and dynamics” and may well set the tone for the day. 

Rates Spark: Different focus, different outcomes US data disappointments are still putting downward pressure on yields, and a busy calendar suggests more volatility ahead. EUR rates may detach from US dynamics as inflation data and European Central Bank minutes sharpen the focus on the upcoming ECB meeting.   The resilience narrative has driven US rates on the way up, and now down US Treasury yields remain under downward pressure as 10Y yields are trying to get a foothold at around 4.1% – early last week they had hit a high at 4.35%. Bund yields, on the other hand, have managed to bounce off the 2.5% level and as a result, the 10Y UST/Bund spread has tightened to 157bp. The narrative that has driven the wedge between the US and EUR rates is now narrowing it. That is also illustrated when looking at the market moves in real rates. They had been the driver of US rates going up and are now mostly the driver on the way down. 10Y real OIS rates have dropped some 17bp from the recent peak, although inflation swaps also slipped 8bp.       Real rates were the driver the UST/Bund gap, and also the latest retightening   Inflation remains the main preoccupation of EUR rates In Europe, the concerns have been more centred around inflation. Longer real rates never picked up and stuck to a tight range, reflecting the outlook for a longer period of stagnation that was also confirmed by the latest PMIs. Instead we had a slow grind higher in longer-term inflation expectations, picking up pace again with the second quarter. While the often cited 5y5y forward inflation has come off its recent highs, the market remains sensitive to the inflation topic, with the ECB now calibrating the final stage of its tightening cycle. The somewhat slower-than-anticipated decline in German inflation yesterday was important in keeping Bund yields off the 2.5% mark. It provided the ECB’s hawks with arguments for further tightening. Never mind that it could be the last burst of German inflation for a while, as our economist thinks – with the ECB’s current mindset being more focused on actual data than forecasts, that may well be all the more reason for the hawks to push for a hike in September and not wait any longer. It may be the last opportunity. Market pricing now sees the chances for a hike next month a tad above 50%, and 90% that we will see a hike by the end of the year.    Dynamics of inflation expectations played a larger role for EUR rates   Today's events and market view US data disappointments are still putting downward pressure on yields, having stalled any attempt to move these higher over the past sessions. A busy slate of US data featuring Challenger job cuts data, initial jobless claims, personal income and spending data, as well as the Federal Reserve's preferred inflation measure – the PCE deflator, which is seen slightly up this time – means there is plenty in store to push yields around again. EUR rates, however, may manage to detach from the US rates again as the focus turns to the flash eurozone CPI release and the ECB minutes of the July meeting. The latter may provide some more insight into any changes to the balancing of inflation versus macro risks and of course the growing debate between the Council’s hawks and doves. With Isabel Schnabel, there is also a prominent hawk slated to speak in the morning – she gives the opening remarks at a conference titled “Inflation: drivers and dynamics” and may well set the tone for the day. 

US The month started with a bang with the US jobs report but the following week is looking a little more subdued, starting with the bank holiday on Monday. Economic data is largely made up of revisions and tier-three releases. The exceptions being the ISM services PMI on Wednesday and jobless claims on Thursday. That said, revised productivity and unit labor costs on Thursday will also attract attention given the Fed’s obsession with input cost, wages in particular. We’ll also hear from a variety of Fed policymakers including Susan Collins on Wednesday (Beige Book also released), Patrick Harker, John Williams, and Raphael Bostic on Thursday, and Bostic again on Friday.  Eurozone Next week is littered with tier-three events despite the large number of releases in that time. Final inflation, GDP and PMIs, regional retail sales figures and surveys, and trade figures make up the bulk of next week’s reports. Not inconsequential, per se, but not typically big market events unless the PMI and CPI reports bring massive revisions. We will hear from some ECB policymakers earlier in the week which will probably be the highlight, including Christine Lagarde, Fabio Panetta, Philip Lane, and Isabel Schnabel. UK  Next week offers very little on the data front but the Monetary Policy Report Hearing in front of the Treasury Select Committee on Wednesday is usually one to watch. While the committee’s views are typically quite polished by that point, the questioning is intense and can provide a more in-depth understanding of where the MPC stands on interest rates.  Russia Inflation in Russia is on the rise again and is expected to hit 5.1% on an annual basis in August, up from 4.3% in July. That is why the CBR has started raising rates aggressively again – raised to 12% from 8.5% on 15 August. Even so, the ruble is not performing well and isn’t too far from the August highs just before the superhike. We’ll hear from Deputy Governor Zabotkin on Tuesday, a few days before the CPI release. South Africa Further signs of disinflation in the PPI figures on Thursday will have been welcomed by the SARB but they won’t yet be declaring the job done despite the substantial progress to date. The focus next week will be on GDP figures on Tuesday, with 0.2% quarterly growth expected, and 1.3% annual. The whole economy PMI will be released earlier the same day. Turkey CPI inflation figures will be eyed next week, with annual price growth seen hitting 55.9%, up from 47.8% in July. The CBRT is all too aware of the risks, hence the surprisingly large rate hike – from 17.5% to 25% – last month. The currency rebounded strongly after the decision but it has been drifting lower since, falling back near the pre-meeting levels. There’s more work to be done. Switzerland Another relatively quiet week for the Swiss, with GDP on Monday – seen posting a modest 0.1% quarterly growth – and unemployment on Thursday, which is expected to remain unchanged. Neither is likely to sway the SNB when it comes to its next meeting on 21 September, with markets now favoring no change and a 30% chance of a 25 basis point hike. China Two key data to focus on for the coming week; the non-government compiled Caixin Services PMI for August out on Tuesday which is expected at 54, almost unchanged from July’s reading of 54.1. If it turns out as expected, it will mark the eighth consecutive month of expansion in China’s services sector which indicates resilience despite the recent spate of deflationary pressures and contagion risk from the fallout of major indebted property developers that failed to make timely coupon payments on their respective bonds obligations. Next up will be the balance of trade data for August on Thursday with export growth anticipated to decline at a slower pace of 10% y/y from -14.5% y/y recorded in July. Imports are expected to contract further by 11% y/y from -12.4% y/y in July.   Interestingly, several key leading economic data announced last week have indicated the recent doldrums in China will start to stabilize and potentially turn a corner. The NBS manufacturing PMI for August came in better than expected at 49.7 (consensus 49.4), and above July’s reading of 49.3 which makes it three consecutive months of improvement, albeit still in contraction.   In addition, two sub-components of August’s NBS manufacturing PMI; new orders and production are now in expansionary mode with both rising to hit their highest level since March 2023 at 50.2 and 51.9 respectively. Also, the Caixin manufacturing PMI for August has painted a more vibrant picture with a move back into expansion at 51 from 49.2 in July, and above the consensus of 49.3; its strongest pace of growth since February 2023. Hence, it seems that the current piecemeal fiscal stimulus measures have started to trickle down positively into China’s economy. India The services PMI for August will be released on Tuesday where the consensus is expecting a slight dip in expansion to 61 from 62.3 in July, its highest growth in over 13 years. Capping off the week will be August’s bank loan growth out on Friday. Australia The all-important RBA monetary policy decision will be released on Tuesday. A third consecutive month of no change in the policy cash rate is expected, at 4.1%, as the recently released monthly CPI indicator has slowed to 4.9% y/y from 5.4% y/y, its slowest pace of increase since February 2022 and below consensus of 5.2% y/y. Interestingly, the ASX 30-day interbank cash rate futures on the September 2023 contract have indicated a 14% chance of a 25-basis point cut on the cash rate to 3.85% for this coming Tuesday’s RBA meeting based on data as of 31 August 2023. That’s a slight increase in odds from a 12% chance of a 25-bps rate cut inferred a week ago. On Wednesday, Q2 GDP growth will be out where consensus is expecting it to come in at 1.7% y/y, a growth slowdown from 2.3% y/y recorded in Q1. To wrap up the week, the balance of trade for July will be out on Thursday where the consensus is expecting the trade surplus to narrow to A$10.5 billion from a three-month high of A$11.32 billion recorded in June.  New Zealand Two data to watch, Q2 terms of trade on Monday and the global dairy trade price index on Tuesday. Japan A quiet week ahead with the preliminary leading economic index out on Thursday and the finalized Q2 GDP to be released on Friday. The preliminary figure indicated growth of 6% on an annualized basis that surpassed Q1’s GDP of 3.7% and consensus expectations of 3.1%; its steepest pace of increase since Q4 2020 and a third consecutive quarter of annualized economic expansion. Singapore Retail sales for July will be out on Tuesday with another month of lackluster growth expected at 0.9% y/y from 1.1% y/y in June; its softest growth since July 2021 as the Singapore economy grappled with a weak external environment. On a monthly basis, a slower pace of contraction is expected for July at -0.1% m/m versus -0.8% m/m in June.  

Next to Italy, Portugal has also been ramping up its funding via the retail sector, although to a greater degree via short-dated instruments – savings certificates. From mid-2022 until mid-2023, their outstanding amount has increased from just over €30bn to almost €46bn. That does not appear much in absolute terms, but it means that the retail segment went from making up 11% to 15.6% of direct state debt. The last time we observed a share that high was in 2008.   Portugal ramped up its share of (short-term) retail debt instruments   It is likely no coincidence that the outperformance of Portuguese government bonds versus Spanish bonds or the overall resilience of Italian spreads versus Bunds occurred alongside a larger reliance on domestic households for funding. To be sure, it is not the only driver as for instance in the summer of 2022, the European Central Bank also revealed its Transmission Protection Instrument. But it can also be a supportive factor going into a renewed debate around the speed of the ECB's quantitative tightening.     Next week: ECB meeting and US inflation Next week is a busy one for markets, the key event being the ECB meeting on Thursday. It will be a close call, but overall we think the chance that we get another hike is greater than markets think. The upside for rates still seems somewhat limited, because it would be pulling forward the hike that markets currently view as happening before year-end with a chance of roughly 70%. We doubt that markets would readily embrace the idea of further tightening on top of that. They could sense that this is the likely end of the cycle as concerns about macro weakness gain more weight, also in the ECB’s own deliberations. Still, the ECB will probably want to counter the notion that this is the definitive end. The degree to which this is successful will determine how much of a bear flattening we could get in the case of a hike. A renewed focus on QT, in particular, could help prop up longer rates. In the US, the upcoming week will be about inflation dynamics. The CPI release is the key event here ahead of the FOMC meeting the following week. The headline is seen picking up to 3.6%, but we think that is largely in the price already. More important is what happens to the core rate, which is seen dropping to 4.3% from 4.7% year-on-year, with the month-on-month rate steady at 0.2%. We will also see the release of producer and import prices as well as the University of Michigan consumer sentiment survey with its reading on inflation expectations. The ISM services this week has highlighted lingering inflation risks, even if the overall dynamics are gradually improving. In terms of market impact, the inflation narrative seems to be driving the curve more from the front end as it determines whether more near-term action from the Fed is required.   Today's events and market view The ECB is already in its pre-meeting blackout period, and the Fed will follow this weekend. The data calendar is light today which may leave markets with more room to contemplate the busy week ahead with a US inflation theme and the chance for another, possibly final ECB hike. We think markets are still trading with an upward bias to rates. The different backdrops against which the next policy meetings are held, a position of macro strength versus a position of growing weakness, has seen UST rates more buoyant again, with the 10-year yield gap over Bunds creeping wider again to 166bp.   

Rates Spark: Slowly gearing up to the key events Markets are gearing up to this week’s main events. It is not just about this Thursday’s ECB meeting, but also about crucial data in the US and UK ahead of next week’s respective central bank meetings. Front-loaded issuance is helping to keep rates elevated, but we also expect hawkish risks to make a bearish case for rates this week.   Front end themes developing in a bear-steepening environment With central banks seen to be approachig their tightening cycle peaks it is only natural that the upcoming meetings are in the spotlight, kicking off with the ECB decison this Thursday.  With regards to central bank communications both the ECB and the Fed are in the pre-meeting black-out periods but we did hear from the BoE’s most hawkish member Catherine Mann yesterday, who noted that it was best to err on the side of further tightening. With regards to the market pricing of the BoE decision outcome, we have seen a notable shift towards the sense that the end of the tightening cycle is nearing. The implied probability for a hike next week had slipped below 80% at the end of last week – late last month the market was still more than fully pricing a 25bp hike.  The main focus in the US this week is still on data however, with the  August CPI release tomorrow. Our economist has flagged the risk of the month-on-month core inflation rate accelerating slightly. While that won’t move the needle for next week’s Fed decision, where a pause is widely anticipated, it would indicate hawkish risks to the broader Fed outlook. The market is attaching a 50% chance to another Fed hike by year-end.      Front loaded corporate issuance activity ahead of the events, especially in the US, is keeping upward pressure on rates. Markets will also have US Treasury supply in mind, where we saw a softer 3Y auction yesterday. The 10Y and 30Y reopenings follow today and tomorrow. It is a similar story in Europe, where we also saw the EU announcing a 7Y deal and – with greater market impact – the UK announcing a syndicated reopening of a 50Y Gilt which weighed on the long end of the curve.     10Y yields are again approaching the upper end of recent ranges

Rates Spark: Steepening from the back end The steepening via the back end has resumed as the Fed's upgraded dot plot sinks in. Even if the market does not fully embrace the Fed's view, the current discount for the Fed funds trough is high enough to justify 10Y yields of 4.5% and higher. EUR curve steepened from both ends, but today's German funding update may put the focus on the Bund asset swap spread.   The back end remains in the lead, in the US... Bear steepening of curves resumed at the start of this week with the 10Y UST climbing  above 4.5%. As this marks the highest yield level in 16 years, the closer guideposts are relative valuations. The 2s10s curve for instance has just straddled -60bp, but we have seen range-bound levels for some time around -50bp post March this year. We would argue a key relative metric is where the 10Y stands in relation to the trough of the discounted Fed funds trajectory, essentially the Fed’s landing zone. If that stays around 4% then longer rates at 4.5% or even higher do not look out of whack. The Fed’s key message last week was the shift higher in the fed funds rate projection. Even at the front end this change still has to sink in to a degree with the market discount of around 75bp still higher than the Fed’s 50bp. Of course this is all premised on nothing breaking in the meantime and data largely holding its poise. Therefore some scepticism seems only natural, but we have argued that it’s the long end that has more room to adjust relative to the given front end discount. Which is why data in the wake of the central bank meetings will remain key, and this week has quite a bit to offer. Foremost the personal income and spending data later this week, but also alongside the Fed’s preferred inflation measure, the PCE deflator. Here our economist does see the risk of the monthly reading ticking higher again, similar to the upside surprise in the prior CPI release.    

FX Daily: Fed cancels the free lunch European FX markets will today be monitoring how US asset markets react to the news that the Fed will not be renewing its Bank Term Funding Program. US regional banks will be in focus here. Elsewhere, the focus will be on what should be a decent 4Q23 US GDP figure and central bank meetings in the eurozone, Norway, Turkey and South Africa.   USD: Let's see how the US regional banks do today FX markets continue in their slightly risk-averse mode, where some of the investors' favourite high-yield currencies - such as the Mexican peso and the Hungarian forint - remain under some pressure.  This is despite global equity markets doing reasonably well. In short, we continue to see a very mixed investment environment and one in which conviction views can be dangerous. Looking ahead today, there are two US themes to focus on. The first is the Federal Reserve's announcement last night that its Bank Term Funding Program (BTFP) would end as scheduled on 11 March. And effective immediately, banks will be charged the rate paid on Fed reserve balances (around 5.40%) rather than the prior one-year USD OIS +10 bp (around 4.88%) to borrow money from the facility. This cancels the free lunch of banks borrowing at the BTFP and parking it at the Fed. The question is how US regional bank equity prices react to this news today. We presume that the Fed has a good handle on this such that these regional banks do not come under stress again. But let's see how this group trades today and whether it ushers in a new, potentially risk-off tone in US markets. The second focus is the 4Q23 US GDP data. We are looking at an above-consensus 2.5% quarter-on-quarter annualised figure. Consensus is now 2.0%. In theory that should be dollar-positive, but not necessarily risk-negative because the price data is far more important to the Fed right now. On that topic, Friday sees the December core PCE deflator (expected at a subdued 02.% month-on-month), while 13 February remains a major day for calendars in the release of the January CPI figure and the 2023 annual CPI revisions. Given also the event risk of the US quarterly refunding on Monday as well as the CPI release on 11 February, we doubt investors will want to commit much capital just yet. Instead, then, we think rangebound trading is the order of the day, with little follow-through should the dollar look particularly bid or offered. 102.75-103.75 looks the near-term DXY range.

Rates Spark: Treasuries need better than the consensus CPI outcome Markets are awaiting Tuesday’s US CPI release which should give confirmation that the disinflation trend continues. But that's not enough, as a consensus month-on-month outcome would still be a tad too hot for comfort. Looking further ahead, foreign buyers aren't absorbing large UST supply, putting upward pressure on term premium.   US CPI inflation will fall, but Treasury yields are still at risk of rising We're a bit troubled about Tuesday’s CPI report. On the one hand, year-on-year rates will fall, with practical certainty. That's because of a base effect. For January 2023 there was a 0.5% increase on the month, so anything less than this will bring the year-on-year inflation rate down, for both headline and core. So why are we troubled? It's the size of the month-on-month increases. Headline is expected at 0.2% and core at 0.3% MoM. The 0.2% reading is just about okay, especially if it is rounded up to 0.2%. But the 0.3% on core is not okay. That annualises to 4%, which is clearly too high. And it's been at 0.3% MoM for the past two months, and if repeated it would be three of the last four months. Again, that annualises to 4%. If we get the anticipated 0.3%, we doubt there can be a positive reaction. At the other extreme, a 0.4% outcome would be a huge negative surprise, one that would likely cause the probability for a May cut to move comfortably south of 50%. That would throw the easing inflation story up in the air, bringing US Treasury yield with them. But this is unlikely, as the tendency has been for inflation to dip as opposed to spike. We assume a consensus outcome for inflation, and given that, we'd expect to see the 10yr Treasury yield creeping towards 4.25%. For the market to conjure up a positive reaction to the inevitable fall in year-on-year rates, there needs to be a 0.2% MoM outcome for core   Foreign UST appetite not enough to absorb issuance The ECB's Lane spoke about financial flows and shared data that showed renewed interest by foreign investors in eurozone debt securities. Lane notes that foreign investors were a significant seller of eurozone government debt securities in 2021-2022, which matches the period of significant ECB balance sheet expansion. The trend reversed in 2023 when the ECB started unwinding its balance sheet and foreigners became net buyers again. With high debt issuance and a shrinking ECB balance sheet, the growing interest of foreign buyers is welcomed to keep long-end euro yields from rising too much.   In the US the amount of government debt to absorb in the coming years is even larger and foreign investors do not seem to come to the rescue. Looking at US foreign holding statistics in the figure below, we see that foreign holdings are diminishing as a share of total USTs. The significant issuance during the pandemic was not matched by an uptake from foreigners. Instead, as Lane also argued, in the eurozone the central bank was the big buyer. Looking at the downward trend of relative foreign holdings, it seems unlikely that foreign buyers have enough appetite to absorb the increase of USTs from the Fed and the Treasury in the coming years. Low demand from foreign buyers for USTs will have an upward effect on term premia, leading to structurally steeper curves.   Foreign UST holdings as share of public debt in decline   Tuesday's key data and events The main driver of markets will be the US CPI numbers of January. In the shadow of this we have Germany's ZEW survey in the eurozone. The UK's data-heavy week will kick off with employment figures on Tuesday, followed later this week by CPI and GDP data.  We have Italian 3y, 6y and 20y auctions totalling EUR 8.5bn, a GBP 1.5bn 9y Gilt Linker, and a EUR 5bn German Bobl auction.