Equities down, yields down, WTI crude up, gold down, US dollar up. UK jobs, wage inflation still hot. Bank of England expected to hike next week

By Stuart Talman, XE currency strategist

Ahead of the week's headline event, the August US CPI report, markets have traded cautiously, price action tracking sideways in compressed ranges. Along with employment numbers, the monthly CPI data is a critical factor in determining Fed policy and therefore the path for the US dollar.

The dollar has been on a tear over the past 8 weeks, propelled higher by a sustained run of hot macroeconomic data, representative of a US economy that is yet to be materially impacted by a Fed funds target rate that has been rapidly raised north of 5%.

Should this evening's annualised headline and core inflation readings exceed their respective consensus forecasts of 3.6% and 4.3%, expectations for additional late-cycle hikes will climb. In this scenario the dollar will continue to outperform whilst US equities and other risk sensitive assets track lower.

Last week produced a fresh year-to-date low for the New Zealand dollar, marked a pip or so below 0.5860 following a fall of over 8% from its 14 July swing high peak above 64 US cents. Price action has entered a holding pattern over the past 5 trading days, modestly improving to mostly range between 0.5860 and 0.5930.

Any attempted bounce over the past 8 weeks has been short lived, NZD sellers emboldened by the US economic exceptionalism narrative in addition to concerns that stress in China's property market could spill over into a widespread financial crisis.

We'd need to see a notable improvement in China's macroeconomic data flow and further cooling in US jobs and inflation data, which in turn would propel NZDUSD back through 60 US cents, to declare the Kiwi has traded a short to medium term bottom.

Risk sentiment, whilst not definitively negative, by no means represents a rosy outlook, and so the New Zealand dollar remains vulnerable to further downside. 

UK jobs numbers were the sole tier 1 data event presented via Tuesday's quiet economic calendar. Wage inflation has been running uncomfortably hot in recent months requiring the Bank of England to maintain its tightening bias. Extending its run of 7 consecutive months of upside surprises, average hourly earnings including bonus logged its biggest increase in over two years, printing at 8.5% (vs 8.2%, expected).

The result firms odds for a 15th consecutive hike from the BoE at next week's monetary policy meeting, market pricing assigning a ~80% probability the bank rate will be lifted 25bps to 5.50%.

Despite the hot headline wage growth number, there were some encouraging signs for the BoE. Wage inflation has primarily driven by public sector wage spikes whilst the increase in private sector pay was marginal. The BoE places more weight on private sector metrics. In addition, looser labour market conditions were signalled via a falling vacancy to unemployment ratio and employment declining the most since September 2020.

If the BoE does raise the bank rate next week, its likely to be framed as a dovish hike, signalling an imminent end to the tightening cycle should incoming data continue to soften.

The Kiwi continues to track sideways against the pound, NZDGBP ranging between 0.4710 and 0.4740 this week having bottomed out at 7+ year lows in the 0.4630's in late August. Technical resistance is located at 0.4735, the 23.6% Fibonacci retracement of the May-August downswing. A topside break likely opens a path to test 0.4800.

Absent a global credit event or financial crisis of some description, it appears the pair's downside run has ended.

The day ahead is all about the US inflation data.

Monthly UK GDP and eurozone industrial production will attract attention but both are not likely to influence short term direction.

The whisper number for US CPI calls for an upside beat. If this proves correct, look for NZDUSD to dive back below 59 US cents to re-test the year-to-date low.

Stuart Talman is Director of Sales at XE. You can contact him here.