Finance
Markets are praying that inflation continues to behave well
A look at the day ahead in the US and global markets by Mike Dolan
Off the radar of last week’s market turbulence, this week’s US inflation updates will reveal how much leeway the Federal Reserve has to meet heightened expectations around the first rate cut next month.
Helped in part by Monday’s holiday in Tokyo – the epicenter of much of the recent volatility explosion – calmer global markets were barely recognizable from last Monday’s wild ride.
As the S&P500 ended last week essentially unchanged despite days of big swings, the VIX volatility gauge has returned to near long-term averages around 20.
Concerns about the US labor market have been tempered by falling weekly jobless claims and the overall corporate earnings picture remains robust, with annual earnings growth for the S&P500 in the second quarter approaching 14% as the reporting season now comes to a close.
What has embedded the wave of job fears and market turbulence, however, are bigger bets on Fed easing — with futures prices still falling somewhere between a quarter and a half point next month and talk of a dip through the end of the year an easing of 102 basis points.
Whether the Fed has the confidence to go that far will depend in part on inflation data like this week’s.
Unusually, Tuesday’s producer price inflation report precedes the CPI update. The former should remain weak, with annual PPI expected to reach a low of 2.3% in July.
Monthly CPI figures of 0.2% should also prove relatively favorable for the Fed, with annual ‘core’ consumer price inflation expected to have eased slightly to 3.2%.
In other words, there should be nothing to scare the horses if the number reaches consensus – with even Fed hawks now recognizing that it is time to ease as long as disinflation continues.
“Should incoming data continue to show that inflation is moving sustainably toward our 2% target, it will become appropriate to gradually lower the Federal Funds Rate to prevent monetary policy from becoming too restrictive in terms of economic activity and employment,” said Federal Reserve Governor Michelle Bowman. said Saturday.
Bowman, who until recently insisted another rate hike was on the table, again bet on big rate cuts based on the July employment report alone, said this may have exaggerated “the extent of the cooling.”
INFLATION EXPECTATIONS
Before we get to the week’s CPI report, the New York Fed will preview household inflation expectations on Monday when it releases its July survey. Average three- and five-year expectations have recently fallen back below 3%.
And markets also appear to have lowered their inflation expectations during the turmoil of recent weeks.
Ten-year breakeven inflation views, embedded in inflation-protected Treasuries, fell to within a fraction of the Fed’s inflation target of 2.0% last week – the lowest since early 2021. Although they have firmed up somewhat since then, they are still 2.1%.
A green light for the Fed perhaps.
The quieter start to the week has pushed government bond yields slightly higher, but still below the 4.0% threshold exceeded in the past ten days.
The dollar index was slightly higher.
Stock futures on Wall St and European indexes were slightly higher.
Mainland Chinese stocks underperformed, with market attention focused on big swings in the government bond market last week.
In deals, BT Group shares rose 6.6% after India’s Bharti Enterprises agreed to buy a stake of about 24.5% from the British telecommunications company’s largest shareholder, Altice UK.
Key developments that should give more direction to US markets later on Monday:
* The New York Fed’s Inflation Expectations Survey
* The US Treasury Department sells 3- and 6-month notes
(By Mike Dolan, Editing by Alex Richardson; mike.dolan@thomsonreuters.com)
