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US Stocks Unfazed by Hot CPI

Stavros Tousios | Wednesday 13 March 2024

The Federal Reserve (Fed) has been attempting to steer the US economy towards a soft landing. Still, last week's Personal Consumption Expenditures (PCE) and Tuesday's Consumer Price Index (CPI) appear to be further from the Fed's 2% target. 

Yesterday, Tuesday, March 12, the annual US CPI came in at 3.2%, while the monthly reading rose 0.4%. In contrast, recent headline PCE data came in at 2.4%. Notably, core inflation rose in annual and monthly terms, higher than expected. The hawkish data sent Treasury yields to one-week highs, putting pressure on gold (XAU) prices. 

US stocks ended the session higher despite the sticky inflation data as investors continue to expect interest rate cuts later this year. The Nasdaq (US-TECH) moved 1.54% higher, the S&P 500 added 1.12%, and the Dow (USA 30) a smaller 0.61%. However, with global stocks at record highs, analysts warn that a correction may be around the corner, as the CPI data could reignite concerns about delayed interest rate cuts. Following the report, many traders see a 62.2% chance of a 25-basis-point rate cut by June, down from 70%. 

A CPI image

Investors Shrug off CPI Despite Rise

The release of CPI reports has caused significant market volatility, as inflation has been a key concern for the past two years. The higher-than-expected February CPI was driven by higher shelter costs, rising gasoline (RB) prices, and higher prices for services like motor insurance and healthcare. Core inflation, excluding food and energy, also rose 0.4% for a 12-month rate of 3.8%. 

The data suggested that bringing inflation back to the 2% target will likely take time. As a result, bond yields rose as auctions received soft demand, showing that investors remain concerned, particularly about wage growth. Regardless, stocks shrugged off the inflation report partially due to seasonality effects, with some still expecting a June cut based on the disinflation narrative.

Overall, the CPI and PCE data divergence might make the Fed's response plan more difficult. The PCE, the Fed's favourite, was a higher reading in January and limited relief in February despite coming in lower than the CPI. However,  the 6-month PCE is seen stabilising closer to 3% than 2%, with the 3-month near 3.5%. 

Hotter CPI Affects Fed Expectations 

Some analysts believe that sticky inflation could delay the Fed's action on cutting rates, saying inflation appears stalling but not declining. In contrast, others still accept a June cut as more evidence of cooling inflation emerges. Other economists argue that the Fed still has room to cut rates given that inflation remains above target and policy restrictive. However, it appears as if the timeline of the cuts will likely depend on upcoming data.

In addition, recent strong jobs data and consumer spending have given the Fed time to assess inflation more cautiously. In addition, the US economy still shows resiliency, with strong growth and earnings. In fact, Jamie Dimon, CEO of JPMorgan Chase (JPM), recently said that the Fed should hold off on cutting because the economy is "booming" with low unemployment and wages on the rise.

Fed officials have indeed signalled rate cuts this year but have stressed that inflation needs to show convincing evidence of returning to target to avoid cutting rates too early. The Fed is expected to keep rates unchanged at the March 19-20 FOMC meeting but provide an update on their economic projections. Moreover, if the median forecast reveals fewer than three rate cuts, it would suggest a more hawkish stance. In contrast, depending on the projections, the Fed's first cut could not just come in June as expected, but even in May. (Source: CNBC)

Conclusion

Conflicting US inflation data has caused volatility. While annual CPI rose to 3.2%, PCE came in lower at 2.4% last week. 

However, the core also increased more than expected and short-term PCE points to pressure. US stocks ended higher despite concerns rate cuts may be delayed, as analysts seem to expect a June rate cut. 

The data divergence makes the Fed's response more complex, as inflation appears stable but not declining at a time when strong economic data has allowed time to assess inflation cautiously. 

Investors will closely watch the Fed's March projections for clues about the Fed's rate path and upcoming reports.


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