Markets Uncertain Ahead of US CPI, Warsh Testimony

The flare-up in Middle East tensions comes ahead of crucial US inflation data, just hours before Warsh makes his first major presentation to Congress on monetary policy.

Key Factors to Move the Market

• Shipments through the Strait of Hormuz halted as tit-for-tat strikes between the US and Iran continue after Iran attacked another ship over the weekend and declared the waterway closed.
• US June inflation is seen easing as crude prices have declined following the MOU, but with the deal breaking down, investors might look past the headline CPI.
• US core CPI is expected to remain elevated, as the Fed sends a preliminary report to Congress affirming its commitment to fight inflation.
• Investors to focus on Warsh's Q&A session in Congress on Tuesday as odds of a rate hike as soon as September rise.

Inflation Back in Limbo

Over the last few weeks, markets have been supported by expectations that a US war with Iran was largely over and that the Strait of Hormuz would gradually reopen. However, over the weekend, Iran declared the Strait closed while the US said it was open, the latest in a saga of differing views from the two participants on what is going on in the Gulf. Naturally, markets are starting the week in the red, and Brent shot up towards $80 per barrel. The closure of the Strait is widely seen as increasing inflationary pressure, which brings into focus the two key events on Tuesday that might shape the Fed's outlook: CPI data and Fed Chair Kevin Warsh's first semiannual testimony before Congress.

US inflation has been above the Fed's target for four years now, and the June reading is expected to reflect a drop in crude prices following the US-Iran MOU that allowed crude shipments. The agreement is now in tatters, which means inflationary pressures might resume and markets could look past the monthly data. Markets are increasingly pricing in a sooner rate hike from the Fed, with the odds now 50-50 for a September hike, as economists see the Fed's hand being forced by inflationary pressures. The consensus is for Tuesday's US June CPI release to show a monthly rate of -0.1%, down from 0.5% in May. The first negative reading in months is almost entirely attributed to lower energy prices during the month. But if the situation in the Strait does not resolve, those prices could go back up. Notably, while Iran has threatened to attack ships travelling through Omani waters, the US has not resumed its blockade of Iranian ports. The annual headline inflation rate is expected to dip to 3.8% from 4.2% previously. However, the core rate, which the Fed tracks more closely, is expected to remain unchanged at 2.9%.

Warsh and Inflation Shift

After the inflation data, all eyes turn to the US Capitol, where Warsh will answer questions from House representatives. The Fed already released its prepared report on Friday, which largely toed the line set at the last FOMC meeting, including the pivot away from easing and a focus on combating inflation. The focus will likely be on the Q&A session, as investors try to gauge the monetary policy outlook from the tone and aspects that Warsh emphasises. Typically, a new Fed Chair will be more candid and is more likely to express views that could move the markets. However, Warsh has notably reduced forward guidance and emphasised data dependency, which may change how the market reacts to the CPI release. Overall, the dollar is expected to gain as the economy remains resilient despite inflationary pressure. The new halt in energy supplies could, on the other hand, hurt the euro, as the shared economy struggles with higher energy prices. If Warsh continues to talk tough on inflation, it could weigh on the EURUSD.

Flattening EURUSD Suggests Breakout

Fibre has been trading within tightening Bollinger Bands, ranging from 1.1400 to 1.1450. While its price action from the low of 1.1325 resembles a pennant pattern, suggesting further declines, a break above 1.1470 could open the door to the next psychological hurdle at 1.1500. On the flip side, if the upper Band or the auto-trendline holds firm, prices could break below the lower trendline near 1.1410, exposing the swing low of 1.1360.

Source: SpreadEx | EURUSD, 4-hour Chart