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On Oddsmaking CPI and the Fed's Decision

Tuesday, June 11th, 2024

Mid-week, we have two potentially very big catalysts for the stock market. First, monthly inflation metrics via the Consumer Price Index (CPI) for May hit the tape ahead of Wednesday's opening bell, then mid-afternoon we get the latest monetary policy statement from the Federal Open Market Committee (FOMC) regarding interest rates. We’re seeing some pairing of these two pending issuances, but let’s see if this is warranted.

CPI numbers have established a higher “floor” than we’ve seen in a couple decades. The Inflation Rate — that is, year over year headline CPI (not core) — two years ago was +9.1%, higher than at any point in the U.S. since November of 1981, based on heavy supply chain problems in the wake of the pandemic clouds lifting. Since June ’22, we have seen the Inflation Rate come down 570 basis points (bps), which is impressive, but only to +3.4% — still notably above the Fed’s target inflation rate of +2%.

The Fed had at first been criticized for moving too slowly. Investment bankers were calling for the Fed to raise rates from 0-0.25% back in the fall of 2021, but Chairman Powell & Co. waited another half a year, and even then only dipped a toe in the water, in the form of a +25 bps hike in March of '22. From there, the Fed moved aggressively but very methodically, growing the Fed funds rate by +425 bps in full-year 2022 and +100 bps in 2023. Obviously, we have yet to move at all in 2024.

At the start of the year, we expected to be headed to a sub-5% Fed funds rate by now. The first rate cut was supposed to happen in March and the second tomorrow, which would have taken our current 5-5.25% rate down to 4.75-5.00% — the first time we’d have a “4-handle” since May of last year. But if we look back at the last time we were above +5% on interest rates, back in the late 00ughts, it was for 15 months. (That was until the clear unraveling in financial markets after years of mortgage-related manipulation.)

Perhaps we feel we’re being starved out with higher interest rates. But relatively recent history shows that we can sustain +5% when the economy is robust, as it continues to prove. Those prior prognostications at the start of 2024 also included the labor market shedding a large number of jobs, which has not happened. Neither have price points crashed through the floor — in fact, though still an annoyance to the average American (see: poll numbers for the 2024 election), the economy appears to be humming along at slightly elevated rates of inflation.

Some people feel a big CPI surprise will change the Fed’s mind tomorrow. Currently, the Inflation Rate is expected to remain steady at +3.4%, with CPI core, year over year, dipping to +3.5% from +3.6% last time around. A big downward surprise on the Inflation Rate, say 50 bps, would take us to a sub-3% level for the first time since March 2021 — prior to the Great Reopening which led to such high rates of inflation in the first place. Even then, however, we’d be at +2.9%: clearly on a downward trajectory but still at least half a point higher than ultimately desired.

Based on trackable consumer habits, this seems unlikely anyway. We do see a month or more of evidence that Americans are now balking at higher price points (from the housing market to summer cinema season), but nothing that would support a major shakeup in CPI data. Even if we do get such a surprise, we’re still going to be a measurable distance from an optimal situation for the Fed to go about cutting rates. If we’re putting odds on this? Forget June, still. July may still be too soon. And September might be too close to the election. But only then will we have stayed at +5% or above for as long as we had the last time.

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