Reaction to US inflation confirms dollar’s bull trend

The release of last October’s US inflation data was a real blockbuster for the markets, creating powerful one-way movements.

Consumer prices rose 0.3% in January, while annual inflation slowed from 3.4% to 3.1% instead of the expected 2.9%. The core CPI rose 0.4%, the highest since May last year, and the annual growth rate of the index remained at 3.9% instead of the expected slowdown to 3.7%.

Tuesday’s release was the third in a row to beat expectations and the second time the miss was more than 0.1 percentage point, which is considered significant for this indicator. The release triggered an impressive repricing of monetary policy expectations, which impacted many market sectors.

The Dollar Index has gained more than 1% from the lows immediately after the release. Its current level of 104.7 was last seen on 14 November, during another inflation release.

Some observers point to the “January effect”, where prices can move sharply, but this is not indicative. We note, however, that since last October, we can talk about a halt in the deceleration of annual inflation, with monthly growth rates picking up. This is particularly evident in the core index, while raw materials and energy continue to make a negative net contribution to the total.

A month earlier, a similar surprise in the data was largely shrugged off by the markets, which were then 80% certain of a rate cut on 20 March. Following the Fed’s impressive management of expectations and a strong employment report, the odds of such an outcome are now at 9%.

In addition, January’s inflation figures cast doubt on a May rate cut. The odds have fallen from 64% to 33%. Such sharp repricing is favourable for the dollar. It also lays the groundwork for the technical signals for dollar growth that emerged in early February.

Technically, the Dollar Index now has a direct path to 105.50. A return to this level would erase the decline in the November inflation release just after the Fed’s dovish turn. A more ambitious target for dollar bulls could be the 106.5 area, which would take the dollar back to its October highs. However, further upside will require much more effort and a qualitative change in fundamentals.

The FxPro Analyst Team