It was the U.S. CPI overnight, with markets reacting strongly to weaker-than-expected printing, with equity and currency markets seeing the failure of the CPI as a positive signal, providing relief to the Fed and indicating that inflation has peaked.
Presentation – Just Dance
- US CPI lower than expected
- The Fed is still talking hawkish
- Reduced initial reaction rates
- Stocks and USD maintain moves
- Coming soon: German trade, US PPI, Fed Daly
This was the US CPI overnight, with markets reacting strongly to a weaker than expected print. Headline inflation was 0.0% m/m vs. 0.2% expected and core inflation was 0.3% m/m vs. 0.5% expected. Alternative core measures were stronger, however, with the Cleveland Fed trimmed average at 0.4% m/m and the median at 0.5% m/m, suggesting little change in the inflation impulse. despite the lack of a title. The Fed’s Kashkari and Evans noted that the print did not change their trajectory for rates. Stocks jumped with the S&P500 +2.1% and the NASDAQ +2.9%. Yields fell sharply at first, but moves were quickly reduced. The 2-year yield initially fell -21.9 basis points, then quickly narrowed to -7.2 basis points at 3.22%. The 10-year was similar, initially down -14.8bps, then rising -3.0bps to 2.78%, and exactly where it was this time around yesterday. Fed Funds prices have moved slightly (but not much) with a 75 basis point rise in September now estimated at 46% versus 73% yesterday. The estimated peak in federal funds is now 3.60% in March 2023, down from 3.67% yesterday. Prices for cuts in 2023 are little moved with 49 basis points of cuts priced at 54 basis points yesterday. The USD (DXY) on the other hand moved strongly, initially down -1.3% to be -1.1% in the last 24 hours.
First to IPC printing. Headline (0.0% m/m and 8.5% y/y) and Core (0.3% m/m and 5.9% y/y) were two tenths below consensus. Much of the overall decline was driven by energy which fell -4.6% m/m in July after jumping 7.5% in June – with falling petrol prices being the main driver at -7% m/m against +11.2% in June. Regarding the basic measure, two main components weighed with out-of-home accommodation -2.7% m/m and air fares -7.8% m/m. Rent inflation remained high with primary rents at +0.7% m/m and owner-occupant rents at 0.6% m/m. The alternative base measure that provided a good guide to inflation when there were sharp declines in certain categories was stronger with a Cleveland Fed trimmed average at 0.4% m/m and a median at 0.5% m/m. This suggests that there has been little change in the overall pace of underlying inflation despite the stock’s failure and it is far too early to be sure that inflation has turned around or is on the way. return to the Fed’s 2% inflation target.
Equity and currency markets nonetheless viewed the CPI failure as a positive signal as a relief from pressure on the Fed and a sign that inflation has peaked. The stock market reaction is also acting to ease financial conditions, where the Fed has tried to tighten them. The S&P500 rose 2.1% on the data and is now 14.8% above the difficult level seen in June, although it is still -12.2% from the January 2022 peak. NASDAQ rose 2.9% and now sits 20.8% above its June low. Historically, a 20% rise has historically been interpreted as a bull market, although in reality, stocks are still likely to be in a bear market given that the NASDAQ is still -19.9% below its November 2021 high. With that in mind, it’s worth noting that Fed talk remains hawkish with Kashkari, Evans out overnight (see below), as does WSJ Fed whisperer Nick Timiraos (see WSJ: Fed likely to want more evidence of slowing inflation). Timiraos noted in his post that “Wednesday’s inflation report leaves the door open for a September half-point rate hike if subsequent data confirms that price pressures are easing. But a 0.75 point hike remains possible after recent reports of accelerating job and wage growth point to strong income gains that could support stronger spending and higher prices.”
The Fed’s rhetoric was hawkish and downplayed the overinterpretation of CPI data. The Fed’s Kashkari, which was until recently one of the most dovish on the CPI, said the ‘not changing my lane’ print presented in June that called for a 3.9 federal funds rate % at the end of 2022 and 4.4% at the end of 2022. It is important to note that Kashkari also said that the path remains true even if a recession is possible in the short term. Kashkari also pushed back on the market price cuts in 2023, noting, “I think a much more likely scenario is that we’ll raise rates up to a point and then stay there until we’re convinced that inflation is coming back to 2% before I think about lowering interest rates”. The Fed’s Evans was similar in that while declaring the inflation numbers as “the first positive report”, inflation remains “unacceptably high” and still wants to take the fed funds rate to 3.5% d by the end of 2023 and 4% by the end of 2023.
Currency markets experienced an overreaction, with little reversal of initial moves. The USD (DXY) is weaker overall, down -1.1% for the day. The NZD was one of the main beneficiaries of the higher risk appetite, registering a gain of more than 2%, as did the AUD which rose by 1.7%. The EUR was +0.8% and the GBP 1.1%, while the USD/JPY was -1.6%. A good report on the CPI does not change our view of the global context, which is still dire due to rising rates and energy prices. Speaking of energy, Russian pipeline operator Transneft PJSC said it had resumed oil flows through the Druzhba line to Ukraine, helping to ease fears in eastern EU countries. Oil prices have been volatile, however, with EIA data showing an increase in crude inventories.
Finally in China, yesterday’s CPI and PPI figures were lower than expected but not too market-moving. In COVID news, China and the UK would restart direct passenger flights, although at this stage flights are one-way from China to the UK (no tickets are sold for the flight back to China), so the implications for China’s zero COVID policy are unclear. Scientists are also monitoring a new virus in China (Langya henipavirus) which has been detected in 35 people. No deaths have been repeated, but symptoms include nausea, headaches and vomiting.
- AU: consumer inflation expectationsn: Consumer inflation expectations over 1 year are published, the previous one being 6.3%. Not typically market movement.
- EZ: German Trade: The June trade balance is out. No consensus is available, the previous month being 2.5 billion.
- United States: PPI; Applications for unemployment benefits; Fed Daly: Core PPI is expected to remain elevated at 0.4% m/m. Unemployment claims are expected to be little changed at 264k. The Fed’s Daly also speaks.