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Current Market Momentum Too Strong to Make a Hawkish U-turn


Boston Fed Collins is the first to officially indicate that she leans to another downshift in the Fed’s tightening pace at the February 1st policy meeting: from +50 bps in December to +25 bps. In an interview with The New York Times, the non-voting Fed governor doesn’t rule out the possibility of a more aggressive step, though it’s not her preferred scenario. “Adjusting slowly gives more time to assess the incoming data before we make each decision, as we get close to where we’re going to hold. Smaller changes give us more flexibility.” In the policy rate peak debate, Collins joins the majority view of lifting it to 5-5.25%. US money markets over the past couple of sessions clearly shifted towards a +25 bps rate hike in February (75% probability vs 25% +50 bps) while simultaneously lowering expectations on the policy rate peak to 4.75%-5%. Last Friday’s weak non-manufacturing ISM triggered this strong repositioning going into today’s US December CPI inflation release. Markets expect a sixth consecutive moderation in headline inflation, from 7.1% Y/Y to 6.5% Y/Y (compared to a 9.1% Y/Y peak in June) with monthly dynamics even pointing to a decline (-0.1% M/M). The underlying core CPI gauge is still expected to rise by 0.3% M/M, but the Y/Y-dynamic is forecast to drop out of the 5.9% Y/Y-6.6% Y/Y range it has been hovering in since January 2022 (5.7% Y/Y consensus). Over the past two months, we’ve seen significant market reaction to sub-par (headline) inflation outcomes. Unlike previously, we’ve had strong anticipation moves in the build-up to this afternoon’s number. In theory, this suggests room for an asymmetric market reaction: small additional core bond gains in case of a weaker or close-to consensus number and heavy losses in case of an upward surprise. We fear though that current market momentum is too strong to make a hawkish U-turn. From a technical point of view, the US 10-yr yield this morning arrived at last Friday’s low (3.51%) with key support (50% retracement on July/Oct move higher & Dec 22 correction low) standing at 3.42%/3.40%. EUR/USD is heavily testing the resistance zone stretching from 1.0735 to 1.0787. The CPI outcome could trigger the break with the next reference being 1.0901 (50% retracement on the EUR/USD decline between May 2021 and September 2022).

The Japanese yen outperforms this morning (USD/JPY 131.70) on a local press report by Yomiuri that the central bank will review the side-effects of its ultra-easy monetary policy at their meeting next week. The study comes after the BoJ widened the corridor around its 0% target for the 10-yr yield from 25 bps to 50 bps at the end of last year. Japanese bonds underperform this morning with yields rising up to 4 bps. Apart from the US CPI, today’s calendar includes the final auction of the US Treasury’s mid-month refinancing operation: a $18bn 30-yr Bond sale. Yesterday’s 10-yr Note auction went well.

News Headlines

Chinese December CPI inflation rose modestly to 1.8% Y/Y, up from 1.6% in November. Food price inflation accelerated to 4.8% Y/Y. The core figure excluding food and energy, rose slightly from 0.6% Y/Y to 0.7% Y/Y as was the case for services prices (0.6% Y/Y). While still very low, the reopening of the economy might cause a gradual further rise in services-related price rises later this year. In the meantime, factory gate prices eased, printing at  -0.7%Y/Y up from -1.3% in December. The ‘rebound’ in PPI inflation was more modest than expected. This probably reflects an ongoing modest demand due to the sharp rise in Covid cases at the end of last year. Ongoing soft data leave authorities, including the PBOC, room for a (selective) stimulative policy. At USD/CNY 6.757, the yuan this morning is nearing the strongest levels since mid-August though it mainly reflects USD weakness.

Australia in November again reported a rising/bigger than expected trade surplus, as imports decreased 1.5% while exports remained broadly stable (-0.4%). Australia uninterruptedly reported trade balance surpluses since January 2018. The trend is supported by ongoing high prices in several commodities, including metals (iron ore). After gaining in the early days of this of the year. The Aussie dollar currently trades little changed at AUD/USD 0.691.

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This non-exhaustive information is based on short-term forecasts for expected developments on the financial markets. KBC Bank cannot guarantee that these forecasts will materialize and cannot be held liable in any way for direct or consequential loss arising from any use of this document or its content. The document is not intended as personalized investment advice and does not constitute a recommendation to buy, sell or hold investments described herein. Although information has been obtained from and is based upon sources KBC believes to be reliable, KBC does not guarantee the accuracy of this information, which may be incomplete or condensed. All opinions and estimates constitute a KBC judgment as of the data of the report and are subject to change without notice.

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