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Hello, forex friends! The U.S. will be releasing its July CPI report this Friday (August 11, 12:30 pm GMT), so chances are good that the Greenback will be getting a volatility injection. And if you wanna get up to speed on what happened last time and what’s expected for the upcoming report, then gear up by reading up on today’s Event Preview!

What happened last time?

  • Headline CPI m/m: +0.0% vs. +0.1% expected, -0.1% previous
  • Core CPI m/m: +0.1% vs. +0.2% expected, +0.1% previous
  • Headline CPI y/y: 1.6% vs. +1.7% expected, +1.9% previous
  • Core CPI y/y: +1.7% as expected, same as previous

The headline reading for U.S. CPI was flat in June, which is a disappointment since the market was expecting a 0.1% month-on-month rise after the 0.1% fall in May.

However a more precise reading for headline inflation yields -0.02%, so CPI actually (very slightly) weakened for a second straight month.

The core reading was also a disappointment since it only came in at +0.1%, which is the same pace as last time. This was a disappointment, however, since the consensus was that the core reading would pick up the pace and print a 0.2% monthly increase.

Year-on-year, headline CPI increased by 1.6%, which is weaker than the consensus for a 1.7% rise, marks the fourth consecutive month of ever weaker annual readings, and is the weakest reading since October 2016 to boot.

The annual core reading, meanwhile, maintained the previous month’s pace of 1.7%.

Looking at the details of the report, the main drag to the monthly headline reading came from the 1.6% decline of the energy components, as the price of fuel oil and motor fuel dropped by 3.7% and 2.8% respectively.

The energy component is stripped from the core reading, however, which is why the core reading was able to maintain its monthly pace.

Overall, the June inflation report was rather disappointing and the disappointment was amplified by the fact that the U.S. retail sales report, which was released simultaneously with the CPI report, was also a disappointment. As such, forex traders reacted by violently kicking the Greenback lower across the board.

Overlay of USD Pairs: 15-Minute Forex Chart
Overlay of USD Pairs: 15-Minute Forex Chart

What’s expected this time?

  • Headline CPI m/m: +0.2% expected vs. 0.0% previous
  • Core CPI m/m: +0.2% expected vs. +0.1% previous
  • Headline CPI y/y: +1.8% vs. +1.6% previous
  • Core CPI y/y: +1.7%, same as previous

For the inflation situation in July, the general consensus among market analysts is that headline CPI increased by 0.2% month-on-month. The core reading, meanwhile, is expected to accelerate from +0.1% to +0.2%.

As for the year-on-year readings, the consensus is that headline CPI will rebound from 1.6% to 1.8% while the core reading is expected to maintain the +1.7% annual pace.

So,what do some of the leading indicators have to say?

Well, the price index from ISM’s manufacturing PMI report for July jumped from 55.0 to 62.0, which means that raw material prices in the manufacturing sector increased significantly. This only applies to input costs, though, and does not automatically mean that companies were charging higher prices on their goods.

Anyhow, Markit’s July manufacturing PMI report affirms the rise in input costs in the manufacturing sector. Even better, Markit noted that “average prices charged by US manufacturing firms increased at a modest pace.” As such, it looks like manufacturers are passing on their higher costs, which would hopefully translate to higher CPI.

Moving on, the price index from ISM’s non-manufacturing PMI report also improved in July, rising from 52.1 to 55.7. And commentary from ISM noted that the increase was broad-based since only the Finance & Insurance services industry reported a decrease in input prices.

Markit’s services PMI report agreed with the rise in input costs. Sadly, however, Markit noted that “Average prices charged by service sector firms also increased at a weaker pace than the previous survey period.”

Overall, Markit and ISM agree that input costs in the service and manufacturing sector accelerated at a faster pace. ISM does not provide any clues on whether or not companies are passing on their higher input costs to consumers, but Markit noted that the manufacturing sector was charging higher costs for its goods. Unfortunately, Markit also reported that the service sector, which accounts for around 59% to 60% of CPI, did not raise prices as much compared to the previous month, which may mean a weaker reading, at least for the monthly CPI readings.

As for historical trends, there is no consistent theme when it comes to how market analysts fare with their guesstimates.

However, seasonal adjustments mean that the headline reading for July is usually weaker compared to June.

And the same can be said of the core monthly readings.

In summary, the available leading indicators point to a potential slowdown in CPI. This obviously goes against the consensus for a faster monthly increase. However a weaker reading (headline and core) in July has been the historical norm.

All is not lost, though, since the major drag on the previous month’s reading was the energy component, thanks largely to lower oil prices. But as you can see in the chart below, oil prices rebounded in July (late June actually), so it’s still possible for the monthly headline reading to print a faster increase.

U.S. WTI Crude Oil: Daily Chart
U.S. WTI Crude Oil: Daily Chart

Anyhow, just keep in mind that traders are usually focused on the monthly readings. A better-than-expected reading for both headline and core reading usually triggers a Greenback rally. Conversely, a miss usually triggers a sell-off. And the Greenback’s reaction to the previous CPI report is a classic example of that.

And if the readings happen to be mixed, then traders usually focus on the headline reading for direction, although that’s not always the case. This is also when the year-on-year readings are usually weighed in.

In any case, chances are good that the Greenback will be getting a volatility infusion. After all, the Fed’s somewhat dovish tone on inflation during the July FOMC statement has been cited as the main cause as to why rate hike expectations deteriorated.

As such, rate hike expectations are also likely riding on the upcoming CPI report. So if CPI comes in strong, then that will likely reinforce rate hike expectations. But on the flip side, a miss would be pretty bad for rate hike expectations and the Greenback.