Stocks rallied yesterday, closing at session highs, ushered by investors excited by AI prospects in the wake of CEO comments from NVIDIA and Oracle – that’s all it took. Consumer Price Index / CPI hit its lowest point since February of 2021, but core inflation remains stubborn yet.
‘Juicy’ enough? In a live TV interview with Yahoo Finance’s Seana Smith and Brad Smith yesterday, I pointed to the stock and bond markets’ initial reaction to inflation data and said traders were hoping for a ‘juicier’ number. By ‘juicy’ I was referring to something that was so far below expectations that the Fed would surprise us all with a ½ percentage point rate cut next week. The Consumer Price Index / CPI actually came in right on expectations at +2.5%. That was not only lower than the prior month’s reading of +2.9%, but it was the lowest since February of 2021… which, scarily seems like a lifetime ago… to me, at least. That is, indeed, something to be proud of, even worth a celebration. Stocks’ initial reaction, however, was negative as traders stuck to the “you can’t let loose if it aint’ got the juice.” That is not a real saying, I just made it up on the fly 😉.
I often quote Fed Funds Futures and Overnight Swaps markets as a proxy of market expectations for Fed policy. For some time, those proxies were predicting a low probability of a -50 basis-point cut at this month’s FOMC meeting. Last week’s big employment number showed a weaker employment situation, but not bad enough to call the authorities… yet. That employment print all but sealed the deal for a -25, not -50 basis-point move by policymakers.
Yesterday’s CPI release was the last “big” influential economic release before next week’s much-awaited policy confab, so all eyes, naturally were on the release as the last great hope for forcing the Fed to front-load a larger rate cut. And… it really didn’t happen. So, naturally, stock traders, already on edge these past few weeks, expressed their initial disappointment by selling. It turns out, later in the day, AI rode into town and spurred equities to rally well into the green with positive comments from NVIDIA and Oracle’s CEOs. Those comments were the perfect salve for the less-than-juicy CPI number… all but forgotten by 4:00 with the tech-heavy Nasdaq gaining more than +2%.
Bond traders did not get the memo that AI is still a thing and 2-year Treasury Note yields ended the day higher by nearly +5 basis points. That doesn’t seem like a big deal, but it is for a shorter maturity note. Those short maturity yields are highly influenced by Fed policy as they attempt to predict overnight rates in… um, 2 years, during which time the Fed is going to be quite active. Yes, there is room for speculation, but very little, so those yields are a pretty solid proxy of market rate expectations as well, and yesterday’s price declines in 2-year Notes reflect the market’s adjusting to the CPI release.
Knowing this, all those adjustments seem a bit much given that the number came in right on the laces, wouldn’t you say? Well, if you look more closely at the number, you may get a better understanding of why strategists are beginning to factor in a shallower trajectory for cuts through yearend. Please have a look at the following chart (my favorite from my friends at Bloomberg). You can see CPI’s (white line) rise and fall from February of 2021 through yesterday. Looking closely at the bars, you will see energy inflation (brown-colored bars) rise in ’21 and ’22, and deflate in 2023, only to all but disappear in 2024. You will also note that Food inflation (blue bars) surged in 2022 but has since returned to pre-pandemic levels. The purple bars represent Goods inflation. Goods are… things, like televisions, cars, smartphones, books, barbecues, tennis rackets, computers… you know, all the gotta-haves we had to have during the lockdown days (yes toilet paper is included in Core Goods). You can see how goods inflation surged in 2021 and 2022 and is now deflating. Remember deflating means that prices are less than they were a year ago, while dis-inflating just means that prices are growing more slowly. That leaves us to what should be the standout in the chart. That is the gold-colored bars that represent Services. You will note that those bars surged in 2021 but have not receded since. That means that services prices continue to grow at a greater-than normal pace. This is not news… or at least it shouldn’t be if you have been on the planet these past few years. Do you want to know what the single largest contributor to Services inflation is? Unfortunately, that would be usual-suspect SHELTER, and Shelter inflation picked up slightly in this latest reading. That came in at +5.28% in yesterday's release. To give you some context, it was around +3.2% prior to the pandemic and it peaked around +8.1% in early 2023. Those are not small numbers and knowing that shelter costs are very much on the mind of Fed policymakers (who think that +2% is a good level for inflation), yesterday’s release is likely to cause the more dovish voters to have some restraint as the print lacked the ‘juice’ to justify a bigger cut. You can watch a video of my interview here: https://finance.yahoo.com/video/markets-were-hoping-juicier-cpi-162822292.html
YESTERDAY’S MARKETS
NEXT UP