Will US CPI Upset the Apple Cart?

U.S. DOLLAR/SPX ANALYSIS

• FOMC expectation = pause.
• US CPI could change current dynamics should inflation beat projections.
• DXY and SPX breakout looming.

FACTORS TO KEEP IN MIND AHEAD OF THE FED RATE DECISION

Little has changed since last week in terms of market expectations with money markets hovering around the 75% probability mark for an interest rate pause by the Federal Reserve (refer to table below). The upcoming announcement is critical for forward guidance across global markets as the majority of central banks refer to the Fed as an indicator.

IMPLIED FED FUNDS FUTURES:

Source: Refinitiv

US CPI is more crucial than ever and may be the deciding factor for the Fed’s decision making. Leading up to this week, several US economic data has been on the decline heightening recessionary fears; however, tight labor market conditions remain alongside inflation levels that are far off the target rate. Estimates point to a rapid decline in headline inflation alongside a marginal drop in core inflation and has been the case of recent. Another release following this trend shouldn’t significantly disrupt Fed forecasts.

US ECONOMIC CALENDAR (GMT +02:00)

Source: DailyFX economic calendar

POSSIBLE OUTCOMES

Rate Pause:

Current consensus points to a rate pause as mentioned above with the possibility of another hike in the future as the Fed looks to evaluate the economic environment after the recent banking crisis and debt ceiling concerns dissipate. The flip side to this result is the that the inflation comes in lower possibly leading to a dovish slant from the Fed indicating the peak of the cycle has been reached.

Rate Hike:

If we see inflation push higher, the Fed may be tempted to hike by another 25bps, leaving the door open to additional hikes going forward. Fed officials thus far have been comparatively less hawkish than prior months adding to the notion of a pause.

The language used and revisions to economic data points will be of particular importance considering the prior estimates of a mild recession in Q4 2023.

TECHNICAL ANALYSIS

U.S. DOLLAR INDEX (DXY) DAILY CHART

Chart prepared by Warren Venketas, IG

The FOMC may invalidate the developing bull flag pattern (grey) and expose the 102.50/50-day MA (yellow) support handle should market expectations follow through, while a hawkish reaction may see the formation unfold in a textbook fashion.

Resistance levels:

• 105.00
• 104.70
• Flag resistance
• 104.00/Trendline resistance

Support levels:

• 103.38/Flag support
• 102.50/50-day MA (yellow)

S&P 500 INDEX DAILY CHART

Chart prepared by Warren Venketas, IG

The S&P 500 has not let up in its upside just yet with continued hopes of a Fed pause. Bulls are now looking to test the August 2022 swing high and me be the case if rates are held steady. A lower interest rate environment is generally favorable for equity valuations hence the largely inverse relationship between the two.

Resistance levels:

Support levels:

• 4200.00
• 4169.48
• 50-day MA (yellow)

IG CLIENT SENTIMENT DATA REVEALS MIXED BIAS

IGCS shows retail traders are currently prominently SHORT on S&P 500 , with 68% of traders currently holding SHORT positions (as of this writing). At DailyFX we typically take a contrarian view to crowd sentiment but due to recent changes in long and short positioning we arrive at a short-term cautious disposition.

Contact and followWarrenon Twitter:@WVenketas