INVESTMENT STRATEGY

Liz Looks at: The Latest Inflation Report

By: Liz Young · April 11, 2024 · Reading Time: 4 minutes

Dull Knives

The March CPI report marks the fourth month in a row of hotter-than-expected inflation data. Before this print, the hot January and February measures had been explained away as “seasonal” and “within expectations”; that explanation no longer works for March.

In fact, most of the explanations we’ve heard for why inflation is still under control are losing their persuasive power with every month that it doesn’t fall. And the Federal Reserve is losing reasons to begin a rate cutting cycle every month that core inflation surprises to the upside.

Even the metric that was supposed to be the one to watch — supercore inflation, which is core services ex-shelter — is back on the rise.

I’ve already heard pushback that certain goods and food prices are on their way down, and that’s an indication that prices are still falling. But unless we’re talking about a diet that consists entirely of cereal, milk products, and sugar, most food prices rose last month… Not to mention, food in general is pricier than it was one year ago, and much pricier than it was two years ago.

Problem not solved.

Put the Cutting Board Away

Markets have so far digested the idea of reducing the number of Fed rate cuts this year from six to three, but this latest read on inflation seemed to be the point where the digestion process turned more painful. The chart below is the one-day move in rate cut expectations at future FOMC meetings in response to the CPI data.

The probability of a June rate cut went from 61% to 28% immediately after the data was released, and we’re now looking at the prospect of only 1-2 cuts this year.

What’s more, if we make it to the November meeting without a cut, it will mark the longest Fed pause between hikes and cuts… ever. That seemed like a very outside possibility just a few weeks ago, but now looks much more plausible.

If the broadening out story, the bull case for markets, and the mid-cycle argument, have all been at least somewhat predicated on the idea that inflation is moving closer to target and the Fed is sharpening its knives, investors are coming to grips with the possibility that those theses are busted.

Don’t Believe the Lip Service

The breaks between FOMC meetings are periods when markets are left to react to data without official moves from the Fed, which can be more volatile. But today’s monetary policy program includes many, many Fed speakers to keep us up-to-date on their views through the wait.

Interestingly, this index shows a definitive drop in “tightening bias” leading us to believe that recent Fedspeak has been dovish. That’s not exactly true, in fact many Fed speakers have hedged their dovish tone to focus more on the incoming data and how it may affect the expectation of cuts.

A better way to read this chart is that we’re nearing the 50/50 line between hikes and cuts. I’d even go so far as to say we remain in the “hold steady” zone, wherever we may draw those lines.

So here we sit, with fewer cuts on the 2024 horizon, and a longer period to wait for them. Which means economic fundamentals and earnings growth need to stay strong or even strengthen in order to push us through a soft landing.

If and when these cuts come, I’m willing to bet they won’t happen when the market thinks they will, and they’ll happen for different reasons than the market wants them to.

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