Yesterday was just another day where another policymaker pushed back on the exaggerated rate cut expectations. Federal Reserve’s (Fed) Christopher Waller said that the Fed should go ‘methodically and carefully’ to hit the 2% inflation target, which according to him is ‘within striking distance’, but ‘with economic activity and labor markets in good shape,’ he sees ‘no reason to move as quicky or cut as rapidly as in the past’, and as is suggested by the market pricing. So that was it. Another enlightening moment went down the market’s throat in the form of a selloff in both equities and bonds. The US 2-year yield – which captures the rate expectations rebounded 12bp, the 10-year yield jumped past the 4%, the US Dollar Index recovered to a month high and is testing the 200-DMA resistance to the upside this morning, while the S&P 500 retreated 0.37%.
Waller spoke from the US yesterday, but many counterparts are wining, dining, and speaking at the World Economic Forum in Davos this week, which doesn’t only offer snowy and beautiful scenery this January, but also serves as a platform to many policymakers to bring the market back to reason. Expect more comments of this hawkish kind during this week. It turns out that one of the most popular topics of this year’s WEF is rising inflationary risks due to the heating tensions in the Red Sea which disrupt the global trade roads and explode the shipping costs.
The EUR/USD Slips into Bearish Consolidation Zone
The European Central Bank (ECB) officials were the first ones to push back the rate cut expectations. They were the first ones to attract attention to the looming inflation risks and to the idea that the ECB doesn’t consider cutting the rates despite the slowing economic activity and looming recession that would – in theory – justify rate cuts in the euro area way more than rate cuts in the States, where growth and jobs numbers remain surprisingly and non-alarmingly resilient.
So many ask why the EUR/USD doesn’t benefit from that hawkishness. Well, it did to some extent. The pair advanced past the 1.10 level at the end of last year. Yet, the reality is, even though the ECB starts cutting the rates after the Fed and cuts less than the Fed, the deterioration in the Eurozone’s economic fundamentals had already started counterweighing the hawkish ECB views. And now that the Fed members have started giving out a more hawkish voice to balance out the overly stretched Fed cut expectations, the downside correction in the EUR/USD is all but surprising. From a technical perspective, there is an important development in the EUR/USD. The pair slipped below 1.0875, the major 38.2% Fibonacci retracement on the October to now rebound and is now in the medium-term bearish consolidation zone. There is potential for a deeper fall. The next natural targets for the bears are the 200-DMA, near 1.0845, and the 50% retracement, near 1.0793.
Unexpected Rise in UK Inflation
Cable rebounded following an unexpected rebound in British inflation numbers this morning. Headline inflation unexpectedly rebounded to 4%, while core inflation remained steady at 5.1% versus the expectation of a decline below the 5% mark.
This morning’s inflation disappointment lead sterling bears to trim bets below the 1.26 mark.
To give Rishi Sunak his due, inflation in Britain more than halved last year and is expected to return to the Bank of England’s (BoE) 2% target by spring, but the possibility of a U-turn in the inflation trend due to the geopolitical developments is a mounting risk and call for a balanced approach from the BoE. But regardless of a hawkish position, the UK’s anemic growth should limit any positive move in sterling against the US dollar.