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Summary: The U.S. CPI and core CPI for July rose 0.2% month-on-month, in line with expectations. Over the past 12 months, the overall CPI increased slightly from 3.0% to 3.2% year-on-year, below the market's expectation of 3.3%. Core CPI, on the other hand, experienced a minor slowdown, declining from 4.8% to 4.7% year-on-year.

Fundamentals

Data released on Thursday indicated that the U.S. CPI for July, on an annualized basis and not seasonally adjusted, registered at 3.2%, marking the first acceleration since June 2022 and falling slightly short of the market's expectation of 3.3%. Core inflation, as anticipated, declined to 4.7%, below the market expectation of 4.8%.

In a way, the July CPI figures look decent and better than expected. This is the kind of number the Fed would like to see - inflation is trending downward - strengthening the belief that the Fed can contain inflation without triggering a recession. With no significant upside surprises, a September rate hike by the Fed now appears less likely.

In the broader picture, core indicators can better reflect underlying inflation than the overall CPI data, which rose 0.2% MoM and 3.2% YoY in July. Progress in inflation, combined with robust economic growth and a healthy but gradually cooling labor market, signifies another step in the right direction for the Fed.

With the decline in core CPI, the real policy rate of the Fed has further turned positive. If inflation continues to ease, the Fed might need to cut rates in 2024 or 2025 to ensure real rates do not rise further. As the Fed's tightening cycle nears its end, the central bank seems to be considering the next phase of its policy trajectory. The risk is that the current downward trend in inflation is temporary, and the Fed might not prematurely declare victory.

Traders have been contemplating the possibility of another Fed rate hike this year. The upbeat inflation data has taken some confidence away from these bets. The most likely path for the Fed is to keep rates between 5.25% and 5.5% for the remainder of the year, though the possibility of further rate hikes still exists.

By the end of 2024, roughly 1.25 percentage points of rate cuts are already priced into the market. The slightly lower-than-expected July CPI figures, coupled with unexpectedly poor initial jobless claims, suggest that the Fed's rate actions are showing signs of cooling the U.S. economy, and they might not have too much work to do in terms of curbing inflation.

Technical Analysis

The recent strength in crude oil prices has had a significant impact on the Canadian dollar in the past few weeks, while weak risk appetite seems to be the biggest resistance the Canadian dollar is currently facing. This situation has pushed the USDCAD further away from its fair value (1.3108) due to the strength of the U.S. dollar. However, at present, there are hardly any signs that negative sentiment will improve quickly.

The trend structure in the intraday chart shows a mild downward bias, with the 1.3385-1.3390 range appearing crucial in the short term. But there's also evidence to suggest that a dip below the 1.3400 level might attract some buying on dips. If there's a clear break below 1.3340-1.3345, the downward momentum might further expand.

Overall, the USDCAD has not resumed its upward trajectory after a substantial retracement from its two-month high of 1.3505 on August 8th. We believe this rebound has topped out. We are patient enough to wait for the price to drop below the previous low of 1.3092, targeting the level at 1.2956. In terms of trading strategy, prioritizing going short at highs is recommended.

Trading Recommendations

Trading Direction: Short

Entry Price: 1.3450

Target Price: 1.2956

Stop Loss: 1.3610

Valid Until: 2023-08-24 23:55:00

Support: 1.3400, 1.3385, 1.3440

Resistance: 1.3437, 1.3503, 1.3536