US Inflation Report for October Alters Dollar Outlook

The latest US inflation report for October appears to have cast doubt on the prospects of a strengthening dollar in the medium term. Details from the report revealed that two crucial components of the index – the service sector and rental rates – experienced a sharp slowdown in price growth. Alongside the production price index, which indicated monthly deflation, these data significantly reduced the likelihood of a December Federal Reserve rate hike (futures are currently pricing in a 0% probability). Additionally, the market has begun factoring in the scenario that the Fed's rate cut in 2024 may commence earlier, with the overall size of the cuts for the year exceeding previous expectations (now around 100 basis points). Despite a positive retail sales report, the situation failed to recover, leading to a dollar and Treasury bond yield collapse. The US dollar index has clearly formed resistance around the 104.50 level in the latter half of this week:Unexpectedly weak initial jobless claims data were released on Thursday, a high-frequency indicator allowing an assessment of the weekly pace of layoffs in the US economy. The number of initial claims rose to 231K, while long-term unemployment claims also increased more than anticipated, indicating that the job search difficulty for the unemployed continued to rise:Following the release of weak labor market statistics, the dollar index fell to 104 but rebounded by the end of the day. Today, towards the end of the week, the downward movement resumed, though the 104 level is likely to hold. There was a surge in buying in both short-term and long-term Treasuries at the beginning of the European session, triggering dollar sales. However, closer to 104, the selling pressure noticeably diminished. Today also saw disappointing retail sales data in the UK and the Eurozone's second estimate of inflation, which met expectations. Considering the openness and size of the US economy, markets are likely to begin factoring in deteriorating economic data in EU countries, the UK, Japan, and other developed nations. The ongoing downward trend of the dollar, without clear signals from the Fed indicating a pause, will likely need to be accompanied by stability in economic indicators in those countries or positive surprises in the data. In this regard, attention should be directed to next week's Eurozone PMI data, scheduled for Thursday, and Japanese inflation figures, set to be released on Friday.