US headline inflation cools but services proving sticky

Headline US CPI inflation came in in line with expectations in February as it slowed to a 17-month low of 6.0% y/y, down from 6.4% in January. Prices were 0.4% higher compared to the previous month. However, core inflation was higher than expected at 0.5% m/m (up from 0.4% in January) and was still at 5.5% on the annual measure. Core service inflation was at 7.3% y/y, the highest level since 1982, with continuing rises in shelter costs a major contributor.

With the stickier services elements of the basket continuing to come in hot, and annual y/y wage growth still high, the likelihood remains that the Fed will hike by 25bps at the upcoming March FOMC meeting despite the recent turmoil in segments of the banking sector. This appears to have been dampened down for now, but the chances of a 50bps hike remain slim given recent uncertainty even as inflation persists higher. The Fed is reportedly considering changes the rules for midsize banks with assets between USD 100bn and USD 250bn that could see more stringent liquidity requirements and tougher annual stress testing.

Chinese industrial production grew 2.4% y/y over the two months to February, a little under the consensus prediction of 2.6% growth. Manufacturing was up 2.1%. Retail sales were up 3.5% y/y over the same period, in line with expectations. The central bank kept its one-year medium-term lending facility rate unchanged at 2.75% this morning as had been anticipated.

The headline UK unemployment rate fell back to 3.7% over the three months to January, down from 3.8% previously. The key wage growth measure meanwhile slowed to 5.7% y/y, down from 6.0% in the previous reading, with the drop in private sector wage growth from 7.3% to 7.0% the first slowdown in a year. This potentially alleviates some pressure on the Bank of England to raise rates even as the UK economy is looking weak, and with the Fed’s hiking trajectory now more uncertaint. Nevertheless, a hike at the upcoming March meeting is still the most likely scenario, especially if there is some fiscal loosening in the Chancellor’s budget due to be revealed today.

Today’s Economic Data and Events

• 16:30 US retail sales, February, % m/m. Forecast: -0.4%
• 16:30 UK budget

Fixed Income

• Treasury markets lost some ground overnight as markets took some relief from steps taken by the Fed, FDIC and Treasury to stave off contagion from the collapse of Silicon Valley Bank. An on-target inflation report for February also helped lessen worries that the Fed would indeed follow through on a large 50bps hike at its upcoming FOMC meeting. Yields on the 2yr UST jumped higher by 27bps, a move that would be earth-shattering if it hadn’t been preceded by a 61bps drop the day before. The 2yr closed at 4.2504%. The 10yr UST yield added about 12bps to close at 3.6892%, flattening the 2s10s curve to about 57bps.
• Markets are still discounting the possibility of a 25bps move next week from the Fed though a peak in rates still looks set for May before market pricing implies rates being cut from then on.
• The recovery in risk assets helped to sink bonds in Europe as well with bund yields up 16bps at 2.408% and gilt yields adding 12bps to 3.478%.

FX

• Some relative calm returned to currency markets overnight though the rise in US yields failed to give the dollar any substantial boost. EURUSD settled more or less unchanged at 1.0733 while GBPUSD dipped slightly by 0.2% to 1.2158. USDJPY moved against the yen with a rise of 0.8% at 134.22
• Commodity managed to hold gains though with USDCAD down 0.3% to 1.3686 while AUDUSD added 0.2% to 0.6682 and NZDUSD rose by 0.3% to 0.6236.

Equities

• Receding worries around banking sector stability drove a rebound in US stocks yesterday, with bank stocks driving the gains. The Dow Jones, the S&P 500, and the NASDAQ added 1.1%, 1.7%, and 2.1% respectively.
• There were similar gains earlier in the day in Europe, although not enough to offset the losses of the previous day. The FTSE 100 added 1.2% while the DAX gained 1.8% and the CAC 1.9%.
• Locally, the DFM dropped 1.5% and the ADX 1.8%. The Tadawul ended the day down 1.0% while the EGX 30 dropped 0.5%.

Commodities

• Oil prices crumbled overnight as financial stress is weighing on the outlook for consumption, even if the linkages are indirect. Brent futures fell 4.1% to USD 77.45/b while WTI dropped by 4.6% to USD 71.33/b. A potential escalation of geopolitical risk following a clash between Russian and US air assets failed to provide much boost to oil.
• OPEC kept its outlook for oil demand growth this year essentially unchanged in its monthly oil market report but upgraded its supply projections for Russia. The producers’ bloc now expects to see a surplus in oil markets in Q2.
• In the US the API reported a small build in US commercial crude stockpiles, up 1.1m bbl last week, though there were substantial draws in gasoline and distillate inventories.