US CPI Preview: Follow the Fed and Look Past the Hot Headline

US CPI KEY TAKEAWAYS:

• US CPI expectations: 3.6% y/y headline inflation, 2.5% y/y core inflation
• A 0.6% m/m reading in headline inflation, while scary at first glance, is already expected and presumably discounted into the current market prices. Instead, the “core” reading will be more impactful for the Fed and markets.
• GBP/USD has spent the last 3 weeks consolidating in a roughly 100-pip range between 1.3200 and 1.3300, setting the stage for a potential breakout.

When is the US CPI report?

The US CPI report for September will be released at 8:30ET (12:30 GMT) on Wednesday, October 14.

What are the US CPI Report Expectations?

Traders and economists are projecting headline CPI at +0.6% m/m (3.6% y/y) and Core CPI at +0.2% m/m (2.5% y/y).

US CPI Forecast

Is the energy shock spreading into underlying inflation, or is the Fed trying to fight primarily a spike in oil prices?

That’s the question that traders will be looking for the answer to when we get this month’s CPI report. After another disappointing NFP report, the third in the last four months, the Fed is stuck between a rock and a hard place: the labor market is showing signs of deteriorating, while price pressures have remained above the central bank’s target for more than five years now.

As the chart below shows, Fed Funds Futures markets are currently pricing in about a 1-in-4 chance that the central bank will raise interest rates at its meeting later this month, setting a relatively high bar to tip the FOMC toward another rate hike:

Source: CME FedWatch

As many readers know, the Fed technically focuses on a different measure of inflation, Core PCE, when setting its policy, but for traders, the CPI report is at least as significant because it’s released weeks earlier. As we noted above, has remained stubbornly above the Fed’s 2% target for a half-decade already, and leading indicators are suggesting it could rise further from here:

Source: TradingView, StoneX

Looking at the chart above, the “Prices” components of the PMI reports rose again last month and still point to a higher headline inflation reading if the historical correlation holds. For traders, the most important fact to understand is that a 0.6% m/m reading in headline inflation, while scary at first glance, is already expected and presumably discounted into the current market prices. Instead, the “core” reading, which excludes food and energy prices, as well as the so-called “supercore” (core services excluding housing) readings will be more impactful for the Fed and markets.

Either way, the stakes are high heading into this month’s CPI report, so traders should be prepared for potential volatility.

US Dollar Technical Analysis – GBP/USD Daily Chart

Source: TradingView, StoneX

Turning our attention to the greenback, GBP/USD is in a particularly interesting, or perhaps so-uninteresting-its-interesting-again, position. Cable has spent the last 3 weeks consolidating in a roughly 100-pip range between 1.3200 and 1.3300, with that range progressively narrowing over the course of October. Likewise, the 14-period RSI has formed a range of its own, with a potential breakout from that range serving as confirmation or a leading indicator for a breakout in the exchange itself.

Combining technical and fundamental analysis, the cleanest setup would be a cooler-than-expected CPI report (especially on the core reading) reducing pressure on the Fed to hike this month and leading to a rally in GBP/USD. In that scenario, 1.3400 would be a logical measured move objective. Meanwhile, a surprisingly hot CPI reading would put another rate hike in October firmly on the table and likely drive a downside breakout in GBP/USD that could have bears targeting 1.3100 in short order.

-- Written by Matt Weller, Global Head of Research

Check out Matt’s Daily Market Update videos on YouTube and be sure to follow Matt on Twitter: @MWellerFX