News & Analysis


Yesterday’s CPI release unequivocally rose the prospect of the Bank of Canada hiking rates by 75bps at next week’s meeting as the core inflation measures held firm and the headline reading fell less than expected. The implied probability of such a decision rose from 20% to 85%, as per money market pricing, but we remain unconvinced by the details to suggest that the BoC should continue prioritising fighting inflation over brewing financial stability risks in the housing market. The rally in Government of Canada bond yields following the release was closely matched with US Treasury yields, meaning the more hawkish expectations of the BoC failed to help the loonie, especially as risk conditions soured. We continue to see USDCAD upside over the coming weeks as recession concerns and housing risks in Canada mount, even if the BoC’s actions next week match the Fed’s in the week after.


As warned over previous weeks, the combination of a tight US labour market and elevated core inflation pressures would keep the Fed in a hawkish stance, raising the bar for USD downside. We have seen this take place over the past few sessions as the dollar continues to climb higher despite positive energy developments in Europe and Asia, along with increased resistance due to intervention methods in some Asian currency pairs like USDJPY. Notably, the dollar’s resurgence in recent days also occurs in what is an extremely light US data calendar this week. In relation to yesterday’s price action, it was the growing expectation of tighter US monetary policy that weighed on risk conditions and prompted a rebound in the broad dollar back towards the top of its recent range. The US nominal 2-year yield rallied close to 12bps in yesterday’s session to new cycle highs, while the 10-year inflation adjusted yield (real yield) closed at its highest level since 2009 at 1.72%. The higher interest rates in the US were supported by the latest Fed beige book of economic conditions, which showed no immediate signs of slowing economic activity or cooling in inflation pressures. Today, the data calendar remains sparse for the US, but with USDJPY trading dangerously close to 150, the potential for renewed FX intervention by the Bank of Japan to strengthen the yen could spark a broad-based round of USD selling, especially if it is accompanied by pushback from Chinese officials in the offshore yuan market. We will also be watching for any further signs of liquidity stresses in bond markets as this could increase cross-asset volatility again, hampering risk sentiment and causing an extension in the dollar.


Given expectations for next week’s ECB have remained firm at 75bps since early September, when the ECB last met, yesterday’s final eurozone CPI reading had little impact on market pricing despite the composite reading being revised slightly lower from the flash reading of 10% to 9.9%. Instead, a sustained break above 4% in the US 10-year nominal yield drove euro price action in yesterday’s session, with the single currency’s downside becoming more visible as US markets came online in the afternoon. This morning, the euro trades slightly higher against the dollar after a muted overnight trading session. Today, the EU summit in Brussels will draw all of the attention as leaders will discuss a common package of measures to deal with the energy crisis recently put forward by the European Commission. This comes as tensions between Germany and France continue to fray as the MidCat gas pipeline running through Northern France to connect Spanish gas to Germany continues to receive pushback from Paris. While leaders will be discussing much larger discussions, ranging from energy rationing to collective bargaining in gas markets and joint debt issuance, a formal decision is unlikely to occur until tomorrow’s planned press conference, which one German official jested “will hopefully still happen” as he eluded to talks stretching into the weekend.


The political circus continued to overshadow developments in UK markets yesterday as a vote on Labour’s tabled motion to ban all UK fracking turned into disarray. With a strong rebellion forming, some Conservative MPs used the vote to signal that they have no confidence in the government, which led to bullying accusations in the voting lobbies as the abstentions came against a three-line whip and the threat that any dissent would result in the removal of the Chief Tory party whip, Wendy Morton. While the government won the vote with a comfortable margin to continue the practice of gas fracking, some 40 Conservative party members abstained. While some abstentions were due to legitimate reasons, others were a protest vote against Liz Truss’s government, which further tightened the screws on the Prime Minister after what was a difficult-to-watch Prime Minister Questions at lunchtime. Between the two scheduled appearances in the House of Commons, another government minister was also removed from their post, this time it was former Home Secretary Suella Braverman, due to alleged security breaches. The political volatility may not subside anytime soon as the government is reported to be hanging on by a thread, with one senior Conservative MP stating Liz Truss has “12 hours to save her job”. The continued political instability is doing sterling no favours as the currency is forced to embed a risk premium on UK assets. Over the coming days, signs of Liz Truss being replaced by ex-Chancellor Rishi Sunak may be viewed favourably by markets, as long as the designation doesn’t further fracture the leading party.



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