UBS On-Air: Paul Donovan Daily Audio 'Rolling the inflation dice'
Lead — Today's commentary by Paul Donovan at UBS highlights increased uncertainty surrounding U.S. consumer price inflation, as key data gaps lead to greater reliance on educated guesswork. This diminished data precision is not expected to significantly sway financial markets, as traders remain focused on discerning signals from the Federal Reserve. With core inflation anticipated around 2.5%, and various pressures influencing price dynamics, market reactions are expected to hinge on the nuances of each data release. Per the full note, the response in bond markets to recent employment figures underscores the current volatility as traders navigate this complex landscape.
What the desk is arguing
The desk argues that the imprecision in today's U.S. inflation data could foster increased market volatility, particularly as investors attempt to gauge the Federal Reserve's next steps. Per the analysis, the reliance on less accurate data may heighten the market's response to individual inflation prints while also raising sensitivities to Fed guidance.
Recent discussions amongst Fed members indicate an acute awareness of lasting inflationary pressures, suggesting that continuous shifts in inflation perceptions could impact future monetary policy decisions. Core inflation is expected to report at 2.5%, potentially reflecting persistent impacts from rising energy costs embedded in consumer goods.
Where it sits in our coverage
Our current consensus target for key pairs sits at 1.075, with a range from 1.04 to 1.12. Specific firm targets include: - jpmorgan: 1.10 (Mar26) - bofa: 1.04 (Mar26)
This outlook aligns with jpmorgan's target, which is at the higher end of the spectrum, while bofa presents a more conservative estimate, potentially highlighting divergent expectations for inflation's trajectory.
How other firms see it
Several firms share the sentiment that inflation data's reliability is diminishing, particularly amid ongoing economic uncertainties. Conversely, a few firms like bofa have adopted a more cautious stance, anticipating lower inflation readings.
Watch for correlations with the USD and Treasury yield movements, as the variability in inflation data may affect Fed policy framing significantly. Observations in pairs like USD/CAD could provide crucial insights into how markets react to these inflation figures.
What the calendar says
There are no upcoming high-impact events on the calendar that would directly correlate with this economic commentary, emphasizing the importance of today's consumer price index release in shaping near-term market expectations.
How firms align with this view
Aligned with the desk view
Contrary positioning
Key takeaways
- 01U.S. inflation data precision is eroding, leading to increased reliance on guesswork.
- 02Core inflation is expected around 2.5%, raising sensitivities to monetary policy adjustments.
- 03Market reactions are increasingly tied to individual data prints in the absence of clear Fed guidance.
- 04Current consensus targets illustrate divergent views on inflation's trajectory.
Market implications
Traders should keep a close eye on the core inflation reading today; deviations from the expected 2.5% could elicit pronounced moves in both equity and bond markets. The response of the USD to the inflation print will signal how persistent inflationary narratives are shaping trader sentiment.
Risks to this view
Should inflation come in significantly above expectations, it could lead to a hawkish shift from the Federal Reserve, prompting a rapid re-evaluation of monetary policy forecasts. Conversely, a lower-than-expected print could reinforce current dovish stances, validating firms aligning with lower inflation expectations.
Good morning, this is Paul Donovan, Chief Economist at UBS Global Wealth Management. It's 6.30 in the morning London time on Wednesday the 12th of August. The first thing to say about the release of July US consumer price inflation later today is that this is less precise than data in the past.
There are more and more gaps in the inflation data and those gaps are filled by guesswork, educated guesswork perhaps, but still guesswork. The second thing to say is that the blunting of consumer price inflation accuracy is not likely to make a difference to financial markets. Investors are trying to second guess the US Federal Reserve at the moment and in the absence of clear medium-term guidance from US Federal Reserve Chair Walsh, that means that individual numbers will become more and more important.
Several Fed members have highlighted concerns about the potential persistence of inflation, hence the heightened focus on the current data. The strength of the reaction of bond markets to a single employment report last Friday is indicative of the power of individual data points at the moment. Market expectation for today is of a relatively benign number, consistent with the Fed being on hold.
Core inflation is generally seen coming in at around 2.5%. In the absence of the war and the ensuing oil price impact, core inflation would probably be at 2% or very close to it. Core inflation contains quite a lot of energy costs embedded in things like airfares and shipping freight costs.
The effects of tariffs on inflation are fading, not because the tariffs were declared unlawful – that did not reverse the impact of tariffs on consumer prices – but simply because tariffs have been a one-off tax increase imposed last year. And so the year-on-year comparison is a comparison now of post-tariff prices with post-tariff prices, not, as in the past, of post-tariff prices with pre-tariff prices. Consumers' inflation perceptions will not match the reported inflation.
In part, this is because of things like the fictitious owners' equivalent rent, which will be dragging down the headline, and no-one will have any sense of that as owners' equivalent rent is an abstract concept. Consumers' perceptions will also be elevated because gasoline prices are still way above what is seen as being fair value. But then, consumers' perceptions of inflation have been above 2% for almost every single month for the past four decades, and that's not something to be necessarily surprised by.
The optimism bias of financial markets when it comes to the oil price seems to be fading somewhat. crude oil prices remain at the upper end of their recent range, in spite of Pakistan doing its best to talk an upbeat story about peace prospects. Investors are increasingly reluctant to price in any kind of long-term deal without clear signals of support from the Iranian side. The trickle of shipping that is actually passing through the Strait of Hormuz is allowing some oil to come out, and that, and more importantly, our other measures, seems to have helped to prevent more extreme moves in the oil price.
But assertions from the US or their allies about the prospects for peace are no longer creating strong investor reactions, it would seem. Away from the US data, the economic releases today are likely to be overlooked by investors. There are some local consumer price inflation numbers within the euro empire, but these are final numbers, and final numbers are almost never revised.
Markets are likely to barely acknowledge their existence. The yen continues to drift back towards fundamental fair value, hovering just below 160 to the dollar. The threat of intervention may be slowing the process of normalisation, which would buy time for the policy changes that could change the fair value for the yen, if only policy changes were going to happen.
Policy changes do not appear to be happening. That's all for today. Have a good day. is a subsidiary of UBS AG and a member of FINRA SIPC.
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