Raw Materials Squeeze Jolts Copper Out of Its Torpor

High U.S. inflation data prompts a slight retreat in oil prices, yet a weekly gain over 4% is anticipated. Strengthened dollar and Fed's expected hawkish stance may increase pressure on natural gas and oil prices. Geopolitical tensions and supply disruptions, alongside strong OPEC and IEA demand forecasts, hint at a tight oil market outlook.

We have no fewer than five central bank meetings of major currencies next week, kicking off with the RBA and BOJ on Tuesday, FOMC on Wednesday before SNB and BOE on Thursday. This clearly makes the US dollar a focal point alongside classic major pairs such as AUD/USD, USD/JPY, GBP/USD and USD/CHF. But it can also bring crosses into the mix such as AUD/JPY and GBP/CHF for traders to seek moves on the relative shift of currencies between such pairs.

A combination of hotter-than-expected CPI and PPI data for the US bought into doubt whether the Fed will actually cut their interest rate in JuneBond yields jumped and dragged the US dollar higher as bears ran for cover, helping the US dollar index recoup some of the prior week’s losses sustained on ‘BOJ hike’ betsGold snapped its 9-day rally at a record high after the CPI print, although as of yet we’re yet to see a material pullback despite the subsequent hot PPI printBitcoin reached a record high at the beginning of the week before the usual volatility ensues that tends to occur around record highsCrude oil prices rose to a 4-month high which saw WTI break comfortably above $80, thanks to the IEA raising their demand outlook for 2024 and Ukraine drone attack on Russia’s oil refineriesCopper prices rallied above $4 to a 7-month high as China’s top smelters agreed to production cuts.

The U.S. Bureau of Labor Statistics released its CPI inflation report for February on March 12, local time. YoY: headline CPI rose 3.2% YoY, slightly higher than the previous reading and market expectations of 3.1%; core CPI rose 3.8% YoY, slightly lower than the previous reading of 3.9%, higher than the expectations (3.7%), a new low since May 2021.

MoM: Headline CPI grew at a rate of 0.4%, in line with expectations, while core CPI grew at a rate of 0.4%, higher than the expected 0.3%, the largest increase in eight months.

February inflation and core inflation in the U.S. slightly exceeded expectations, which seems to run counter to the decline in inflation indicators closely tracked by the Fed. Since the end of January, the international oil price has returned to the threshold of US$80, and the market has expected the rebound of U.S. CPI in February, but the final reading is still slightly higher, reflecting that the resilience of U.S. inflation is still relatively strong.

Generally speaking, the process of de-inflation in the U.S. may be in a "critical period" in the short to medium term. Although the current inflation level is moving towards the goal of the Federal Reserve, there may still be more uncertainties about the required time. This is also the "hardest and last road" that inflation needs to take.

This CPI inflation has been driven almost by rent costs and services such as shelter, medical care, and transportation.

Looking at the February inflation data in terms of breakdown items, shelter, and gasoline prices were the main contributors to the increase in the CPI, with both accounting for more than 60% of the February increase. The prices of food and food at home as a whole remained unchanged from the previous month. In core commodities, the trend of new vehicles and used vehicles is out of touch. Specifically:

Energy prices were the main driver of this increase in the headline CPI, and the decline in energy inflation narrowed in February. Fuel oil rose 1.5% MoM, while gasoline increased 4.3%. The price increase was partly due to rising ongoing geopolitical risks, with the Red Sea conflict severely disrupting international shipping and forcing some merchant ships to take long-distance detours to avoid danger, increasing costs and pushing up prices. Moreover, the expected extension of the OPEC+ production cuts, officially announced on March 4, has been an important factor driving prices higher, with the extended cuts tightening the global oil supply in the short term. Finally, the largest refineries in the Midwest of the U.S. were on shutdown in early February due to power outages, resulting in lower motor gasoline production and inventories. Inventory declines on the East Coast and Gulf Coast have had a huge impact on the total supply of gasoline in the U.S. (the largest producer and consumer of gasoline in the U.S.), whose retail price industry has risen again due to higher crude oil prices.

Although energy does not account for the largest share of the CPI, oil prices not only affect the prices of commodities but also the prices of other services, which will also weigh on inflationary expectations and thus exacerbate the risk of inflation.

Last week the EIA released its weekly report on crude oil inventories, which fell by 1.536 million barrels by March 8, exceeding expectations of 1.338 million barrels and marking the second consecutive weekly decline. The focus remains on whether U.S. crude oil production is supportive of market supply. If the support is insufficient, it could even lead to a reversal of energy inflation.

In terms of core inflation (excluding food and energy prices), new vehicles and used vehicles are excellent performers in this inflation. On a MoM basis, there was no increase in new vehicles; used vehicles increased by 0.3%, continuing the downtrend overall.

U.S. vehicle inventories reached 248,000 in January, slightly up from a month earlier (previous reading of 240,000), but compared to the same period last year, vehicle inventories have doubled. In the past, the global chip shortage led to a reduction in the supply of vehicle inventories, the price spike has improved significantly. With the current increase in supply, it is expected that vehicle manufacturers will continue to be forced to cut prices and that new vehicle prices will continue to fall this year. The used vehicles are downstream of the new vehicle industry chain, and as new vehicle prices cool down, used vehicles become significantly less attractive to consumers, while prices must adjust along with them.

According to vehicle sales tracked by vAuto, used vehicle retail sales were up 18% in February compared to January, and used vehicle retail sales are expected to be up 5% YoY in February. Sales of new vehicles also rose significantly, with new vehicle sales in February up 9.6% YoY and 16.6% MoM.

The forward-looking Manheim Used Vehicle Value Index for February also reported that wholesale used vehicle prices declined in February compared to January. It is expected that used vehicle prices may continue to decline over the next 2-3 months.

It is important to focus on the fact that while there was a decline in the data for the entire month, wholesale prices in the last week of February were the strongest gain in years. Lower prices for new and used vehicles brought strong growth in consumer demand, but the U.S. vehicle inventories have risen only slightly over the past three months, and if demand continues to grow at this rate, there will likely be the possibility of oversupply, which will lead to prices picking up again.

As for core services, shelter remains the largest contributor to core inflation, accounting for 45% of core inflation, and its growth rate has been in the range of 0.4%-0.6% MoM from December last year to February this year, with 0.5% recorded this time.

The unusual increase in Owners' Equivalent Rent (OER) in January did not continue in February, suggesting that the past value was likely just a fluke, that housing inflation is not as sticky as we imagined, and that housing services inflation is still on track to come down. In addition, new leases show a marked slowdown in the pace of rent increases, and in some cases even a decline. It is expected that rents for primary residences and OER should continue to slow down this year and reduce core inflation.

In addition, the supply of new homes has increased to 456,000 units, the highest level in more than a year. In January, the median housing price in the U.S. recorded US$420,700, a slight increase from the previous month (the previous reading was US$413,100), which was the fifth consecutive month of YoY decline. The decrease in housing prices will be reflected in the inflation report in the future by the decrease of the OER. However, it should be noted that the current new home projects are sharply reduced, which may lead to the reversal of housing prices in the case of insufficient supply and strong demand, thus promoting the rise of housing inflation.

Supercore inflation (less the sub-items of shelter's core CPI services), the Fed's favored indicator, rose 0.47% MoM in February, a slowdown from January's 0.85% MoM rise, but still above pre-pandemic levels. It also rose as much as 4.5% YoY, the largest increase in almost a year.

Services inflation is currently sticky from an endogenous supply-demand gap with strong sustainability, suggesting that the last mile will be particularly difficult. In terms of sub-items, transportation services (1.4% MoM) and airline fares (6.6%) showed an accelerating trend in February, except for medical care services (-0.6%), which declined MoM.

But slower MoM wage growth will likely ease the stickiness of service sector inflation. The February non-farm payrolls showed a sharp decline in private sector wage growth to 0.1% MoM (from 0.4% previously), which is certainly good news for inflation. However, given that the labor supply deficit has yet to fully improve, it remains to be seen whether wages reverse quickly.

After strong numbers in January, this report is further evidence that inflation is becoming stubborn. While the overall trend is still slowing, the Fed is looking for greater confidence that inflation will continue to move toward 2%, and that confidence is not found in this report. However, the "supercore" that Powell has repeatedly emphasized and focused on has slowed down sharply, and other sub-items are heated but not extreme. The composition of the overall report is still consistent with the slowdown trend. Although there are "accidents", it is not high enough to prevent the Fed from cutting interest rates in June.

Therefore, the Fed will most likely cut rates in 2024. The inflation data of the month may have limited influence on the timing of interest rate cuts, and the change in inflation trend is the most important for the current Fed's judgment. Combined with the February non-farm payrolls data, the U.S. labor market is still rebalancing, the supply and demand relationship in the labor market is gradually improving, but is still in a tight state. Premature interest rate cuts may cause a rebound in inflation in the later period.

According to data from the FedWatch tool of CME, the probability of a rate cut in June is now 62.6%, down from 70% in February before the inflation release, but the magnitude is limited. This means that the result of the inflation data exceeding expectations is well within the market's acceptable range, and even a little "favorable".

However, it should be noted that as the U.S. is a consumption-led economy, Q3 and Q4 are the traditional peak consumption seasons. If there is no recession in Q2, there is a high probability that the economic performance in Q3 and Q4 is acceptable, and it is still necessary to consider the fact that the Fed has postponed the interest rate cut timeline due to the strong economy.

Overall, this round of de-inflation in the U.S. may be a long-term process, but as it continues, the real interest rate level is also rising. As long as the process of de-inflation does not fluctuate greatly, the Fed may be more inclined to carry out "preventive rate cuts" to prevent the economy from continuing to be under pressure at a restrictive interest rate level.

China's central bank left a key policy rate unchanged while withdrawing cash from a medium-term policy loan operation on Friday, as authorities continued to prioritise currency stability amid uncertainty over the timing of expected Federal Reserve interest rate cuts.

The Fed's historic monetary tightening has bolstered the dollar and pressured the yuan over the past few years. Cutting rates before a move by the Fed or other major central banks would widen yield differentials, potentially putting more pressure on the local currency.

The People's Bank of China (PBOC) said it was keeping the rate on 387 billion yuan ($53.80 billion) worth of one-year medium-term lending facility (MLF) loans to some financial institutions unchanged at 2.50% from the previous operation.

With 481 billion yuan worth of MLF loans set to expire this month, the operation resulted in a net 94 billion yuan fund withdrawal from the banking system. It marked the first cash withdrawal through the liquidity instrument since November 2022.

The central bank said the Friday's loan operation has "fully met financial institutions' demand" to maintain banking system liquidity reasonably ample, according to an online statement.

"Net cash withdrawal is an obvious signal, echoing the content of the government work report on preventing idling of funds," said Xing Zhaopeng, senior China strategist at ANZ.

"Given major commercial banks have not yet lowered deposit rates again, chances of another policy rate cut are low."

In a Reuters poll of 36 market watchers, 32, or 89%, of all respondents, expected the central bank to keep the borrowing cost of the one-year MLF loans unchanged.

China has set an ambitious 2024 economic growth target of around 5%, promising steps to transform the country's development model and defuse risks fuelled by bankrupt property developers and indebted cities.

PBOC Governor Pan Gongsheng said last week the bank would keep the yuan basically stable and sent a dovish message to the market by saying China had "rich monetary policy tools at its disposal."

Investors have since ramped up their bets authorities will roll out more monetary easing measures, including a further reduction to bank reserves, to support the world's second-largest economy.

The MLF operation "may suggest that a reserve requirement ratio (RRR) cut is forthcoming," said Frances Cheung, rates strategist at OCBC Bank.

"There may be an intention to replace part of MLF with liquidity released from an RRR cut. After all, there have been strong hints from officials of an RRR cut."

The central bank also injected 13 billion yuan through seven-day reverse repos while keeping the borrowing cost unchanged at 1.80%, it said in a statement.

The Asian session looks set for a negative open to end the week, with Nikkei -0.66%, ASX -1.39% and KOSPI -1.12% at the time of writing. Overnight, US Treasury yields reacted to the upside on another hotter-than-expected inflation print, this time from the US producer price index (PPI). Along with a surging US dollar (+0.6%) and the subdued session in Wall Street, risk sentiments across the region are kept on the backfoot.

On the radar, China’s new home prices extended its decline to -1.4% in February, significantly deeper than the -0.7% in January, which suggests that its property downturn remains in place amid sluggish demand. The Hang Seng Properties Index is down more than 1% lower at the time of writing. The People's Bank of China (PBOC) has also kept the rate on its one-year medium-term lending facility rate unchanged at 2.5% in today’s session in a widely-expected move, which is in line with authorities’ current stance for a more gradual approach in extending support.

The China A50 index is back to retest its key 200-day moving average (MA), following an upward break last week, which will have to see some immediate defending from buyers in today’s session. The Hang Seng Index (HSI) dipped 1.3% lower at the time of writing, but that will leave one to watch for any formation of a new higher low to keep the upward trend since January this year in place.

As we officially step into the second half of March today, the HSI is up 1.5% month-to-date and if the bulls want to find further validation, they will be glad to know that seasonality may be in their favour ahead. Looking at the seasonality for the HSI over the past 30 years, the second half of March through the month of April tends to be a turnaround period for the index and is generally supportive of gains.

Of course, one may note that seasonality is essentially an average and is often just used as a pure reference. It did not play out last year, where the index was down 13% from late-March to end-April. To sustain the rebound, economic recovery may remain the key and with recent data revealing some green shoots in China's economy, further follow-through will be much needed ahead.

The Nikkei 225 has come under some heavy profit-taking lately, as speculations mount for a quicker stimulus exit from the Bank of Japan (BoJ), which may drive a cautious lead-up to the BoJ meeting next week.

The index has dipped more than 5% to hang around its two-week low, although one may note that it is still up more than 16% year-to-date. For now, its daily relative strength index (RSI) is back to retest its key 50 level for the first time since January this year, which may have to see some defending from buyers.

Ahead, immediate support to watch may potentially be at the 38,200 level, where a 23.6% Fibonacci retracement level stands. The broader upward trend may remain intact for now, with the index still trading above its daily Ichimoku cloud support, along with various moving averages (50-day, 100-day, 200-day).