US CPI inflation surprises to the upside

• US CPI inflation accelerated to 9.1% y/y in June, exceeding expectations that it would come in at 8.8%. The June print is up from 8.6% in May and marks the fastest pace of price growth since 1981. Prices were 1.3% higher on the month, beating expectations of a 1.0% gain. While core inflation did moderate on an annual basis (5.9% y/y down from 6.0%), on the monthly measure it was faster (0.7% m/m up from 0.6%) and it was higher than consensus predictions in both instances. Services accounted for the biggest part of the annual price growth (3.2 percentage points) while energy accounted for the second largest share (3.0pp). With commodity prices starting to moderate the peak for price growth could be nearing, but this month’s miss will ensure that the FOMC follows through with at least another 75bps hike at the upcoming July meeting (especially given the strong NFP report last week) and raises the possibility that it could go even higher.
• The likelihood of this possibility was increased overnight as the Bank of Canada implemented a 100bps hike to its own benchmark rate, taking it to 2.5%, and warned of more tightening ahead. This exceeded the consensus expectation of a 75bps hike and was the largest move higher since 1998.
• UK real GDP growth for May surprised to the upside as it expanded 0.5% m/m, far stronger than the consensus projection of a 0.1% expansion. Meanwhile, the growth rate for April was revised from a -0.3% contraction to -0.2%. Consumer-facing services declined by -0.1% m/m in May as retail trade declined by -0.5%, but an increase in holiday bookings helped offset this. An uptick in doctors’ appointments helped bolster services output as a whole as human health and social work activities grew by 2.1%. Production grew by 0.9% and construction by 1.5%. While there remain questions over the strength of the UK consumer in the face of the cost-of-living crisis – and there is evidence of priority adjustment in the data – the stronger-than-anticipated growth print strengthens our view that the Bank of England will accelerate its monetary tightening with rate hikes of 50bps at the August and September meetings.

Today’s Economic Data and Events

• 16:30 US initial jobless claims, week to July 9. Forecast: 235,000

Fixed Income

• Another hotter than expected CPI print helped to push US Treasuries lower overnight as it firms up the Federal Reserve for a 75bps hike when it meets later this month. Initial market reaction to the June CPI print of 9.1% y/y was a sharp move higher in yields across the curve though that faded later in the day to a large degree at the longer end. The 2yr UST sustained more of its losses, however, with yields ending the day up almost 11bps at 3.1547%. The 10yr yield initially popped to more than 3.06% before easing back and the 10y UST actually gained on the day, with yields closing lower by 3bps to 2.9336%.
• The rise in June inflation helped to push the 2s10s even deeper into inverted territory, settling at almost 23bps overnight at starting the week around 8bps inverted. This is the steepest level of inversion since 2000.
• With inflation again accelerating month on month, the Fed is locked into maintaining an aggressive stance on tightening policy and markets have now moved to pricing in more than a 75bps hike at the July meeting. The Bank of Canada opened the door overnight for developed market central banks to use 100bps hikes and there is seemingly a higher likelihood the Fed will go with 100bps before they would go with 50bps.
• European bond markets closed with little action overnight with the 10yr bund yield up 1bps at 1.137% and the 10yr gilt yield slightly lower, by about 2bps, to 2.056%.

FX

• Currency markets were highly volatile around the release of the US CPI data with EURUSD moving at one point below 1 before bouncing back sharply and managing to actually end the day up 0.22% at 1.0059. However, with the taboo of parity now unleashed, the risk of retesting or moving below given the weak conditions in the Eurozone economy looks strong.
• GBPUSD managed to close the day essentially unchanged at 1.1889 as the focus shifts from the effect tighter US policy will have on the pair to the outlook for the economy under a new prime minister. The front runner of the Conservative leadership race, former chancellor Rishi Sunak, is likely to maintain a high tax burden if elected, further threatening the viability of consumer activity in the UK.
• USDJPY added almost 0.4% overnight, reversing the prior day’s gains for the Japanese yen. In early trade today it has broken above 138.10, a gain of 0.5%.
• The Bank of Canada surprised markets with a 100bps hike overnight, helping to take some momentum away from the US dollar generally. USDCAD closed lower by 0.4% at 1.2974, having moved below 1.2940 at one point. The reactions in other commodity currencies was more short lived, selling off in response to the US CPI and recovering on the BOC with both AUD and NZD closing little changed at 0.676 and 0.6131 respectively.

Equities

• US equities sold off yesterday as the CPI print for June surprised to the upside, although the damage was not quite as bad as might have been feared. The NASDAQ, the S&P 500 and the Dow Jones fell  -0.2%, -0.5% and -0.7% respectively.
• The poor outlook for Europe as the Euro hit parity continued to weigh on stock markets as the CAC (-0.7%) and the DAX (-1.2%) both closed lower. In the UK, the FTSE 100 ended the day down -0.7% but remains a comparative outperformer over the year so far, down just -3.1% ytd.

Commodities

• Oil prices traded in a relatively narrow band, by recent standards, with both Brent and WTI closing up marginally. Brent settled a USD 99.57/b, barely higher, while WTI added 0.5% to USD 96.30/b.
• The IEA cut its demand outlook for 2022 and 2023 marginally as high oil prices start to “dent oil consumption” though the easing of Covid-19 restrictions in China will help demand over the rest of the year. The agency also improved their outlook for Russian oil supply given the country has shown resilience in the face of diplomatic pressure to restrict its energy exports but the IEA still expect a steep drop in Russian output by next year. The IEA has cautioned recently and emphasized it in its monthly report that “without strong policy intervention on energy use, risks remain high that the world economy falls off-track.”

Click here to download charts and tables