FOREX-Dollar gains after US inflation data reinforces Fed rate-hike bets

The dollar strengthened against major currencies on Tuesday after hotter-than-expected US inflation data bolstered expectations that the Federal Reserve would raise borrowing costs next month. Data ‌from the US Labor Department showed that the Consumer Price Index increased 0.4% last month, exceeding the consensus forecast of a 0.3% gain in a Reuters poll of economists.

The dollar extended its gains against a basket of currencies after the report while the yield on the 2-year ‌note, which typically moves in step with Fed rate expectations, jumped and was last up 18.44 basis points to 4.731%. The euro was ‌down 0.55% against the dollar at $1.116. The dollar gained 0.55% to 158.80 against the Japanese yen . Against the Swiss franc, the dollar rose 0.71% to 0.8252 franc.

The market was caught off guard because the data appeared to support hawkish comments by Federal Reserve Governor Christopher Waller, who had said on Tuesday that the central bank should raise ⁠short-term borrowing ​costs next month, according to ⁠Steve Englander, global head of G10 FX research and North American macro strategy at Standard Chartered Bank. "The fact that Waller was sounding so hawkish caught the market's eye. That ⁠was the beginning of the dollar's rally and the rates' rally," Englander said.

"With the CPI also coming on the hot side, especially because it seemed ​to be fairly broad-based, the market is getting worried. The dollar has been mostly an oil trade since the (November 3 US ⁠midterm) election but now people are thinking, 'We're looking at the wrong ball. The ball we should have been focused on is the inflation risk and the Fed ball,'" Englander said. Markets ⁠are ​now pricing in a nearly 91% chance of a rate hike in December from the Fed, according to CME's FedWatch tool.

The dollar index, which measures the greenback against a basket of currencies including the yen and the euro, rose 0.57% to 102.26. The trade- and ⁠sentiment-sensitive Australian dollar fell 0.89% to $0.686. The New Zealand dollar weakened 0.56% versus the greenback to $0.56.

"Scope for dollar weakness remains limited in the ⁠near term," said Karl Schamotta, chief ⁠market strategist at Corpay, in an investor note. "With a resilient labour market and solid domestic activity keeping US consumption strong and staving off an abrupt slowdown, it is difficult to envisage the greenback entering a ‌sustained decline before year ‌end."