Dollar rallies on mixed inflation data, anticipating another rate rise

The dollar rallied on expectations that the Fed will raise rates again this year and as bond yields continued to rise. Bond markets sold off this morning on no real improvement in CPI inflation data, with some good and bad news, while leaving the equity market unchanged other than profit-taking in the Russell 2000 stocks.

Bottom line: risk-off.

TODAY’S MAJOR NEWS

CPI inflation modestly disappointing

Headline inflation, unchanged at 3.7% and core inflation at 4.1% on the month, is too high for the Fed’s 2% inflation target. Bond markets judged this morning’s Consumer Price Inflation (CPI) data as modestly bad news, with 2- and 10-year bond yields adding seven basis points and five basis points, respectively, to 5.07% and 4.65%.

Bulls highlight the fall in core CPI inflation, providing a sense of cautious optimism and supporting the recent dovish tone heard from members of the Federal Reserve. However, the interest rate futures market put the probability of a December rate increase by the Fed at 37%, up from 26% yesterday.

• Headline CPI rose at an annual rate of 3.7% in September, worse than the 3.6% forecast and matching the pace seen in August
• Headline CPI rose 0.4% month-on-month, above the 0.3% forecast, and down from 0.6% last month
• The headline inflation number reflected rising energy prices in September, as expected, which broke hard when the calendar turned to October
• Core CPI ex-food and energy rose at an annual rate of 4.1%, matching analyst expectations, and down from 4.3% in August
• Core CPI rose 0.3% month-on-month, in line with expectations and unchanged from last month

Fed meeting minutes point to one more rate hike

Minutes of the September Fed meeting released yesterday marked a shift in sentiment. A growing number of policymakers are concerned about the uncertainties of the economy and rising commodity prices while supporting at least one more rate hike at the latest meeting. Yet, these same policymakers indicated that the financial markets are tightening, doing some work for them as yields on longer-term Treasuries trend higher, “supporting the case for proceeding carefully” before raising rates again.

Wall Street traders saw that as an indication that the Fed is moving closer to a pause. However, any talk of a policy pivot was cooled by talking in the minutes of shifting the discussion toward holding rates high rather than pushing them higher. As such, the Fed may be more open to an extended pause, but rate cuts still appear to be down the road.

Labor market remains tight

• First-time claims for unemployment benefits remained unchanged at 209,000 in the week ending October 7, matching analyst expectations – and showing no signs that the labor market is any less tight
• The four-week moving average fell to a historically low 206,250 claims, down from 209,250 in the previous week
• Continuing claims for the week ending September 30 jumped to 1.702 million, up 30,000 from the previous week, which was also revised upward by 8,000, perhaps showing signs of job layoffs
• The four-week moving average for continuing claims rose 4,750 to 1.674 million

Strategic oil stocks in line with seasonal averages

• US commercial crude oil stocks (excluding the Strategic Petroleum Reserve) rose by 10.2 million barrels in the week ending October 6, about 3% below levels typically seen in early October
• Gasoline stocks fell by 1.3 million barrels, just 1% above the five-year average for the week.
• Distillate stocks dropped by 1.8 million barrels, around 11% below seasonal levels
• Ethanol stocks dropped to 21.5 million barrels in the week ending Oct. 6, down from 21.9 million barrels the previous week, just 2% below seasonal levels

TODAY’S MAJOR MARKETS

Russel 2000 falls back on profit-taking

• Nasdaq and the S&P 500 were pretty much unchanged today, the former up 0.2% and the latter flat, while the Russel 2000 fell 1.4% on profit-taking
• Foreign equity markets were generally more robust, led by a 1.8% rise in the Nikkei 225, 0.3% in the FTSE, with a 0.2% fall in the DAX index
• The VIX, Wall Street’s fear index, fell back to 15.6

Bonds rise after CPI data

• 10-year yields traded up another six basis points to 4.66%, while 2-year yields rose to 5.07%
• The dollar index rose 0.5% to 106.1
• Versus the dollar, Sterling, Euro, and Yen fell 0.9%, 0.7%, and 0.4%, respectively

Oil and gold see selling pressure

• Crude oil prices fell 0.3% to $83.2 per barrel
• Spot gold prices rose 0.2% to $1,844 per ounce, while silver fell 0.8% to $22.0 per ounce
• Grain and oilseed markets are reacting to the just released USDA crop report

Analysis by Arlan Suderman, Chief Commodities Economist: Arlan.Suderman@StoneX.com

Market outlook by Paul Walton, Financial Writer: Paul.Walton@StoneX.com