Markets were factoring in multiple rate cuts going ahead as Inflation came down sharply in past few months. In bull case scenario markets were factoring at least 4 to 5 rate cuts in this financial year, but the recent inflation data is forcing markets to reconsider its view. So, Is the market over optimistic about inflation falling below 2% and rate cuts as soon as in June policy meeting? Lets examine different scenarios.
US recent Inflation data details
The US inflation data which is measured in the consumer price index (CPI) at 3.1% shown a dip MoM as it was 3.4% in December, the US Bureau of Labor Statistics (BLS) reported on Tuesday. Still data was above market expectations, as estimates were that CPI will be at 2.9%. The Core CPI, which excludes volatile food and energy prices, rose 3.9% in the same period, matching the December’s increase and surpassing analysts’ estimate of 3.7%.
Consumers buying power is increasing in US and that’s the primary basis behind FED’s soft landing confidence. Fed in its last meet suggested that war with inflation is still on and they are not thinking about a rate cut yet but also were equally confident of strength in US economy and soft landing.
All items | 3.1% |
---|---|
Food | 2.6% |
Food at home | 1.2% |
Sugar+ Sugar substitutes | 7.2% |
Other fats + oils | 5.1% |
Carbonated drinks | 4.8% |
Food away from home | 5.1% |
Electricity | 3.8% |
All items less food + energy | 3.9% |
Motor vehicle insurance | 20.6% |
Repair of household items | 18.2% |
Nonprescription drugs | 9.2% |
Outpatient hospital services | 8.3% |
Motor vehicle repair | 7.9% |
Garbage + trash collection | 6.4% |
Rent of primary residence | 6.1% |
Cable television service | 5.7% |
Laundry + dry cleaning services | 5.4% |
Haircuts + other personal care services | 4.2% |
Is Inflation still a worry that can shake markets?
To answer this we need to take a deep dive into more data. Apart from inflation data Consumer confidence data are giving mix signals too, Consumer sentiment jumped 13% in recent Jan data to its highest level since July 2021. Wages are growing too though the pace is less but still it is on rise as the hourly pay has exceeded the rate of inflation since May. So one side it is sending a strong signal for economy and consumer sentiment but on other it can keep inflation high for longer period of time.
This is precisely the reason why Fed is keeping a close watch on data and they are in wait and watch mode. In last meet fed chair Jerome Powell denied to comment on early rate cuts by saying that they are not thinking about it and still keeping the war with inflation in fore front. So in this recent inflation data there are still few readings(e.g. Vehicle insurance, repair items, motor repair etc) which are still way above historic average. In other specific categories-
- Shelter: This remains the major driver of inflation, showing a 6.2% YoY increase in December 2023. Rising rent and housing costs are significant contributors. Mortgage rates are still high though below 2023 peak but average 30-year fixed rates stay around 7%, making homeownership less affordable for many, especially first-time buyers. Major contributor in Inflation data, US housing market is still tight as inventory remains tight. The number of available homes hasn’t significantly increased, keeping upward pressure on prices.
So how much rate cuts now post today’s inflation data
Market was factoring in at least 6 rate cuts in 2024 before today’s inflation data but now given the pace of inflation market is realizing that it ran too away in its forecast so the adjustment caused today’s panic fall. US markets fell as much as 4% in today’s trading session and Treasury yield and US dollar index climbed up sharply.
Now, according to CME Fed watch tool, market interest rate traders are predicting 4 rate cuts of quarter points total 1% in 2024. It means markets see interest rates in 4.25-4.5% range post December 18,2024 meet. Market was expecting first rate cut to come as early as May meet but now it sees rate cuts starting in June policy meet.
What next for the markets?
The key question is, what next for markets? As experts warn at life time high a lot of good news is already in the prize and AI, tech and pharma led rally needs more good news to keep going further. Today’s market fall is broad based as all sectoral indices are in red and volatility index VIX is up above 16 after months and is up above 200dma. Post today’s inflation data market correction was something many were sure of but will the market get into a prolonged corrective phase is highly unlikely.
Chances of time wise correction is much higher than price wise corrections. FED is not committing it to take any particular actions and decadal high rates and further hawkish tone will not let inflation make a sharp comeback from here. Though today’s oil price rally is a surprise but mostly energy and other essential item price will remain in check going ahead.
I predict a balance between optimism and pessimism, as chances of higher rate thus weaker economy will not let inflation make a comeback and chance of softer landing and rate cuts will keep the market afloat. Here a look at S&P 500 chart to predict the future movement of the index. With 1st major support in 4850-4900 range and very strong support near 4500 range, chances of a major fall is limited.
Read our more article on Inflation data and US rate hikes here.