Hypnotized traders say “show me” to Fed

Stocks rallied yesterday, reflecting an optimistic investor, waving off hawkish Fed comments, and wagering that inflation is over… and with it, rate hikes. Today’s Consumer Price Index / CPI was/is top-of-mind for investors, lawmakers, and the Fed.

“Show me, homie”If you know, you know… if you don’t, that is a quote from a 1990s The Notorious B.I.G. song. Why did I wait until this morning to use that lyrical clip? Because THIS IS THE MORNING. The morning on which we will get a read on the most-followed inflation figure from the Bureau of Labor Statistics. I am of course, referencing the Consumer Price Index / CPI. Surely, the members of the FOMC will be at home in robes, slippers, and thick glasses, toast in one hand, and tea in the other, with their eyes glued to the small TV set in the kitchen when the number comes out at 8:30 AM Wall Street Time. They will be thinking “show me, I want to see inflation pulling back!”

If you haven’t noticed, there has been a bit of disconnect as of late. The Fed… the guys and gals who MAKE policy are saying and expecting one thing, while the market… the entity that decides whether we will have enough money to retire comfortably, is saying another thing altogether. The Fed’s last projection release has FOMC members forecasting a 5+% Fed Funds rate at the end of this year. Additionally, Fed members have been going out of their way to make sure we understand the Bank’s stance. Virtually all of them are calling for rates to continue to rise to at least 5% and beyond, offering NOT EVEN A HINT of letting up. The message is clear: “more hikes and certainly no cuts!” Fair enough, right? On the other side of the disagreement is the market itself. If you look at Fed Funds futures, you see that investors are expecting Fed Funds to end this year at around 4.4%. In fact, if you look at the curve below, futures fill in all the detail between now and December. Futures are acknowledging an almost 5% Funds rate by summer with a rapid decline thereafter. That would be +50 up and -50 down by December... with more cuts next January! What would possibly cause the Fed to do that? Only 2 things. Either inflation would have to drop so much that it would be clear that it is indeed dead, or a recession.

Stocks have somewhat of a positive feel to them since the turn of the new year, most likely reflecting optimism that inflation is receding and that the Fed will soften up. Last week’s monthly jobs number along with a weak services sector number spurred a huge rally in stocks and bonds. In bonds, 2-year Treasury Note yields have fallen by -20 basis points since the start of the year. The 2-year attempts to project short-term rates in… um, 2 years. There is very little room for speculation in the 2-year note which is held captive by policy, so when those yields fall, even by -29 basis points, the market is sending a strong message. Even with Monday’s sharp pullback, resulting from hawkish Fed comments, the S&P500 is up by +3.39% year-to-date and the Nasdaq Composite, +4.44%. The Nasdaq is heavily weighted in interest-rate-sensitive, growth stocks, so when it outperforms, in this environment, it is likely a reflection of expectations of easing monetary policy. The Fed is clearly saying one thing, while futures, stocks, and bonds are saying to the Fed: “show me, homie!”

WHAT’S SHAKIN’

American Airlines Group Inc (AAL) shares are higher by +3.53% in the premarket after it announced preliminary 4^th quarter earnings that were well above analysts’ estimates. The company is due to make its official Q4 earnings announcement on 2/2. Potential average analyst target upside: +6.3%.

Netflix Inc (NFLX) shares are higher by +1.33 in the premarket after Jefferies upgraded the stock to a BUY rating and raised its price target to $385. The company believes that Netflix’s new ad-supported offerings will add to topline performance and increase margins in 2H23. Potential average analyst target upside: -6.2%. WHY IS THIS NUMBER NEGATIVE? Because the company’s stock price is above the average analyst 12-month target. This can be interpreted as the stock being overpriced but it does not mean that it cannot continue to climb.

YESTERDAY’S MARKETS

Stocks rallied broadly yesterday as optimism that the angry Fed will become less angry seeped into the market. The S&P500 Index rose by +1.28%, the Dow Jones Industrial Average climbed by +0.80%, the Nasdaq Composite Index rallied by +1.76%, and the Russell 2000 Index advanced by +1.17%. Bonds climbed and 10-year Treasury Note yields slipped by -7 basis points to 3.53%. Cryptos advanced by +0.23% and Bitcoin added +0.54%.

NEXT UP

• Consumer Price Index / CPI (December) may have fallen to +6.5% from +7.1%.
• Initial Jobless Claims (Jan 7^th) are expected to come in at 215k, higher than last week’s 204k claims.
• Fed Speakers today: Harker, Bullard, and Barkin. Expect commentary on this morning’s big number.