Soft US PCE 'ricochets off the Dollar like a bullet bouncing off steel'

We think it's fair to say the relentless sell-off in government debt worldwide has become the main driver of currency markets and the dollar, at least for now. The dollar is the main winner in the current environment as not only is the rise in Treasury yields boosting the appeal of US assets, but the broad sell off in debt globally is fuelling safe-haven flows into the greenback.

Interestingly, Wednesday’s unexpectedly soft US PCE figures - the Fed’s preferred measure of inflation - ricocheted off the dollar like a bullet bouncing off steel.

This is important, because even as markets now see little chance of an October Fed hike following the data, the dollar has kept grinding higher - reinforcing the view that currency markets are currently being driven less by the near-term Fed rates path and more by developments in the bond market. This afternoon's nonfarm payrolls report will put that hypothesis to the test.

With markets now pricing in less than a one-in-three chance of an October hike, a strong report would be unlikely to bring a rate increase back into serious contention this month, whereas a weak one could kill that speculation altogether.

Consensus points to a job creation number around the 90k level - well above breakeven employment growth - so the bar for a downside surprise seems rather low. Whether this would be enough to halt the dollar’s surge upwards seems unlikely barring some positive news out of the Iran war.