US inflation data brings back speculation of more Fed rate hikes

Market movers today

The main release on the global radar today is US consumer confidence from University of Michigan, which also includes the 5-10 year inflation expectations that have dropped slightly in recent months to 2.8% after hitting a peak of 3.1% back in May.

ECB President Christine Lagarde will be speaking on a panel at the IMF autumn meetings.

In the Nordics we get Swedish CPI for September, where we look for core inflation to fall to 6.6% y/y slightly below consensus of 6.7% (see more below). Also the Riksbank will release its first report on the two.

The 60 second overview

US inflation and markets. The big event for global macro and markets over the last 24 hours has been the release of September CPI data out of the US. While core inflation was in line with expectations at 0.3% m/m the headline measure surprised consensus by 0.1pp to the topside at a 0.4% m/m reading corresponding to 3.7% y/y. The data release triggered a sharp reaction in bond markets where yields rose and the curve bear steepened which then transmitted to worsening risk appetite across asset classes, incl. a stronger USD.

While the market reaction was to price in a higher probability of another rate hike from the Federal Reserve - now priced at roughly a c. 40% probability - we highlight the importance of the inflation details. Indeed it was primarily shelter that posted a surprise rise after several months of declines. Not only do we see signs from other indicators that this spike is unlikely to prove persistent but we also highlight that the underlying measures of inflation that the Federal Reserve normally refer actually came in fully in line with expectations. In that regard, we still maintain our call that we have already hit a peak in US policy rates.

Energy. Oil prices have stabilised after the rise earlier in the week. With respect to the war between Israel and Hamas, so far it has not escalated to a point that affects global oil supply. On the data front, the weekly US inventory report was a bearish reading for the oil market. US crude production increased last week and so did commercial inventories. The government also seems to have halted a further rebuild of strategic reserves. We look for oil prices to trade close to current levels near term. 

Chinese headline CPI weaker, trade data stronger: Overnight Chinese CPI dropped to 0.0% y/y (consensus 0.1% y/y) in September from 0.1% y/y in August. It puts headline inflation closer to deflation again but mainly due to lower energy and food price inflation. Core inflation stayed unchanged at 0.8% y/y for the third month in a row and we are thus still some way from broad based deflation. Nevertheless, the low inflation is symptomatic of too weak demand relative to supply. Chinese trade data for September, also released this morning, were better than expected with exports rising to -6.2% y/y (consensus -8.0% y/y) from -8.8% y/y. While external demand is still a drag, the headwind is fading a bit. It likely reflects an easing manufacturing recession globally as signalled for example by a rise in ISM manufacturing new orders in recent months. Import growth was also stronger at -6.2% y/y (consensus -6.3% y/y) from -7.3% y/y in August.

German labour market. Yesterday, we published a piece diving into the recent developments in the German labour market. The German labour market has remained remarkably strong despite weak economic activity overall. While GDP has fallen since Q3 2022 employment has increased continuously. We find that the major drivers behind strong employment growth in Germany is strong public sector employment growth and part-time employment. Also demographics, and a larger share of service sector employment drive the divergence between employment and GDP. For more information please see Research Germany: What drives the recent divergence between employment and GDP?, 12 October.

Polish election. Poland goes to the polls this Sunday to elect a new parliament. The incumbent Law and Justice party (PiS) fights to secure its third consecutive term with the United Right coalition. If this happens, we will likely see increased confrontations between Poland and the EU over rule of law concerns in Poland. The recent polls show that neither PiS nor the opposition led by former EU council president Donald Tusk will be able to form a majority government. Although the polls are volatile and uncertain, it seems most likely that the election will result in a hung parliament where the Confederation party - which has not declared its support to any coalition yet - will be the king-maker.  If the opposition wins a majority, we expect an immediate policy shift in Poland away from the confrontation with the EU and a reset of the Ukrainian grain import ban. Importantly, EU will likely release the 36€ billion in grants and loans from the pandemic recovery fund (NextGenerationEU) that it currently holds back due to rule of law concerns stemming from the current government. This will significantly boost the Polish economy and we expect to see a positive reaction from markets on the Zloty. Anything else should be negative for the Zloty.

Equities: Global equities fell yesterday mainly driven by US markets. The reasons were clear; a hotter than expected inflation print sent yields higher and equities lower. Interestingly, it did not lead to a defensive rotation! Two of the worst performing sectors were consumer staples and utilities. Yields were still the cause for the underperformance but for very different reasons. Consumer staples have recently reacted negatively to higher yields as this acts as tax on consumption, and high frequency data have shown some signs of weakness. Utilities sold off as investors realise the higher funding cost for a rather indebted sector that is also a part of the expensive and "long duration" green transition.

In US yesterday, Dow -0.5%, S&P 500 -0.6%, Nasdaq -0.6% and Russell 2000 -2.2%. Most Asian markets are in red this morning, reversing the gains from yesterday with the outperformers from yesterday, China and Japan leading the declines. Western futures are spilt, with European futures lower and US futures higher.

FI: US government bond yields moved higher on the back of the US inflation data with 10Y US Treasury yields rising some 15bp compared to a rise of 8bp in the 2Y segment. This had a spill-over effect on the European bond markets where the 10Y German government bond yield rose approx. 7bp combined with a modest steepening of the yield curves.

FX: EUR/USD moved sharply lower following the topside surprise to September inflation, ending the day below the 1.0550 mark. Today, focus turns to the September CPI release for Sweden, where we expect a downside surprise to both the headline and core measures, which in turn would support our base case of an unchanged Riskbank decision in November. Additionally, the Riksbank publishes the tentative results of the FX reserves hedging program, which commenced on 25 September. EUR/GBP moved higher on the soft GDP data out for August, highlighting our call that the Bank of England delivered its last hike in August.

Credit: Somewhat Hawkish US inflation data did not spook credit markets, which ended tighter for the day. Itrax main tightened 1.3bp to close at 81.9bp, while Itrax main tightened 5.9bp to close at 435.5bp. Primary market activity was also decent, with among others the Norwegian Rail Construction Company, NRC, printing a 4yr FRN at DM+440bp. 

Nordic macro

Inflation statistics are released in Sweden today (08:00). We expect a CPIF decline to 3.5% and YoY and core inflation to decrease by 0.6 p.p. to 6.6% YoY. If we are correct, CPIF will be 0.3 p.p. below the Riksbank's forecast, while it will be spot on for core inflation. There is uncertainty regarding two areas: food prices and recreation/transportation services. Food prices are expected to see a marginal decline, while the other area, such as holiday travel prices, is expected to drop further after a surge during the summer. Falling electricity prices will push the energy component lower as it outweighs the rise in petrol prices. Both the Danish and Norwegian inflation came in lower than expected earlier this week and were mainly dragged down by the uncertain Swedish components which supports our forecast.