Dollar Weakens on Lower-than-Expected U.S. CPI

The dollar weakened against major currencies on Thursday after an unexpected fall in the U.S. Consumer Price Index (CPI). The dollar's decline was particularly sharp against the yen, reminiscent of previous intervention by Japanese officials earlier this year. Local Japanese television station Asahi, citing government sources, suggested there was an intervention in the currency market. However, domestic news service Jiji reported that top currency diplomat Masato Kanda refrained from commenting on the matter, although he noted that recent yen movements were "not in line with fundamentals." The CPI report fueled market speculation of Fed rate cuts this year, with increased bets for reductions in September and possibly further cuts later.

Market Reactions

Treasury Yields and Stocks:

• Treasury yields fell 6-13 basis points by New York afternoon, slightly off the day's lows.
• Spreads generally moved against the dollar versus the euro, yen, and sterling.
• The S&P 500 declined by 0.77%, retreating from record highs as investors shifted their focus to small-cap stocks. This move was spurred by the soft inflation reading, which bolstered hopes for a September rate cut by the Fed.

Commodities:

• WTI crude oil gained 0.83% on the increasing U.S. rate cut expectations.
• Copper fell more than 2% due to poor demand prospects, especially in top consumer China, and an oversupplied market reinforced by rising inventories in London Metal Exchange approved warehouses.
• Gold rallied 1.87%, supported by growing rate cut bets.

Currency Movements

Toward the close, the dollar's weakness was evident:

• EUR/USD: up 0.33%
• USD/JPY: down 1.79%
• GBP/USD: up 0.49%
• AUD/USD: up 0.21%
• EUR/JPY: down 1.45%
• GBP/JPY: down 1.34%
• AUD/JPY: down 1.59%

Risk-On and Risk-Off Sentiments

Risk-On Sentiments:

• Stock Market Shift: Investors favoring small-cap stocks over megacap stocks indicates a risk-on sentiment, driven by hopes for Fed rate cuts.
• Gold Rally: Gold's rise reflects a shift towards safe-haven assets amid expectations of monetary easing.

Risk-Off Sentiments:

• Copper Decline: The significant drop in copper prices highlights concerns over global demand, particularly in China, indicating a risk-off sentiment.
• Dollar Weakness: The pronounced decline in the dollar reflects market uncertainty and a shift towards safer assets like gold and yen.

Market Outlook

Looking ahead, the market will closely monitor upcoming economic indicators, particularly inflation and employment data, to gauge the Fed's next moves. If data continues to show weakening inflation and economic growth, expectations for rate cuts will solidify, potentially leading to further dollar weakness. Conversely, any signs of economic resilience or unexpected inflationary pressures could temper these expectations and provide some support for the dollar. The interplay between economic data releases and central bank communications will be crucial in shaping currency market trends.

Key Factors to Watch:

• Economic Indicators: Inflation and employment data will be critical in determining market expectations for Fed rate cuts.
• Central Bank Communications: Statements from Fed officials will be closely watched for hints on future monetary policy actions.
• Global Economic Developments: Economic conditions in major economies like China and the Eurozone will also impact market sentiment and currency movements.

In the near term, the market remains poised for potential rate cuts by the Fed, with ongoing economic data playing a pivotal role in shaping these expectations and influencing currency trends.

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