The tale of US CPI, Fed meeting minutes and the market's wild ride

Markets

US CPI and the March Fed meeting minutes were the main events defining trading yesterday. The former showed headline prices easing a full percentage point to an annual 5% but a core gauge accelerating from 5.5% to 5.6% on the bank of sticky services/housing inflation. US bond yields whipsawed with the 2-y losing 20 bps from intraday highs, followed by a 15 bps rebound in the hours thereafter. The 10-y fell but then recouped all of the 12 bps drop. The minutes later revealed the Fed balancing risks of a credit crunch following the SVB collapse and stubbornly high inflation. They raised rates by 25 bps and the updated dot plot suggested one more in store even as Fed staff warned for a mild recession. But that’s less than what officials expected to do before the financial turmoil erupted, according to the minutes. Given the uncertain outlook, there’s a need for “flexibility and optionality”. The sky in the meantime cleared up a bit, something which several Fed governors including Daly yesterday, acknowledged. Yet, the overall dovish tone of the minutes in the end still prevented the 2-y yield (-6.4 bps) a close above 4%. Longer maturities underperformed with the 10-y eventually losing 3.5 bps and the 30-y adding 0.4 bps. The US induced decline in German Bund yields was quickly followed by a vigorous rebound, leading to net gains of 5.6 bps (30-y) to 9 bps (2-y). Strong Bund underperformance brought EUR/USD within striking distance of the 1.10 big figure. Dollar weakness also did its part. The trade-weighted index fell from 102.12 to 101.50. EUR/GBP managed to close above 0.88 for the first time since end-March. BoE governor Bailey in an after-market speech said that financial stability issues won’t distract the central bank from its fight against inflation through higher rates, adding that it has different tools to address the matter. Equities struggled. The Euro Stoxx 50 erased a 1.5% gain to trade flat, Wall Street ended a choppy session in the red (Nasdaq -0.85%).

The Australian dollar is the top performer during Asian trading this morning on the back of a stronger-than-expected labour market report. The USD trades stable with EUR/USD hovering near yesterday’s closing levels close to but below 1.10. US cash yields eke out gains of up to 2.5 bps at the front. The 2-y yield remains close near the 4% barrier. Today’s economic calendar contains jobless claims and US PPI numbers. Seeing the market’s over-sensitiveness for downside surprises, core bond yields face larger risks for losing further ground, especially in the US. The dollar in such a case may break through support at around EUR/USD 1.10(33). Doing so immediately brings 1.1185/86 on the radar. The UK industrial update this morning slightly disappoints but sterling in a first reaction trades little changed.

News and Views

The Bank of Canada kept its policy rate as expected unchanged at 4.5% for a second meeting running. Quantitative tightening continues to complement the restrictive policy stance. It also sticks with a tightening bias if needed to return inflation to the 2% target. Canadian money markets discount a flat policy rate path until December, when they discount a 25 bps rate cut. BoC governor Macklem pushed back against that scenario at the press conference. The BoC expects CPI inflation (5.2% Y/Y in February) to quickly fall to around 3% mid 2023 and then decline more gradually to target by end 2024. Risks are tilted to the upside because inflation expectations are coming down slowly, service price inflation and wage growth remain elevated, and corporate pricing behavior has yet to normalize. Canadian demand is still exceeding supply and the labour market remains tight. Canadian Q1 growth looks to be stronger than anticipated in January with solid consumption and a bounce in exports. The former could take a hit as households renew mortgages at higher rates and as restrictive policy works its way through the economy more broadly. The latter might come under pressure in coming months as US growth is expected to slow considerably. The BoC projects GDP to grow by 1.4% this year (from 1%), 1.3% in 2024 (from 1.8%) and 2.5% in 2025.

March Australian labour data printed very strong this morning. Recall that February jobs data also delivered a big positive surprise (+63.6k). Employment grew by 53k (vs 20k expected) with full time job gains even bigger at 72.2k. Part time jobs fell by 19.2k. The unemployment rate stabilized at a near 50-yr low of 3.5% (vs 3.6% expected) with the participation rate unchanged at 66.7% as well. Australian money markets aren’t convinced yet that back-to-back payroll strength will tempt the RBA into delivering a (final?) 25 bps rate hike at the May policy meeting. The Aussie dollar trades slightly strong this morning against a weak USD (AUD/USD 0.67).

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