Markets had a treacherous week following the hotter-than-expected August CPI print, with major indexes posting their worst weekly performances in months. Following Tuesday’s CPI release, the Nasdaq 100 went completely “no-bid”, all 30 stocks in the DJIA declined, as did all 11 sectors in the S&P 500. Yields propelled higher with the 2Y yield rising to 3.86% and the 10Y closing the week at 3.45%. All eyes remain focused on next week’s FOMC meeting, where it is expected that the central bank will raise rates another 75bps. The Bank of England and Bank of Japan are due to announce their monetary policy decisions next week as well, opening up the potential for increased volatility. Shares of FedEx tumbled after the shipping giant warned of a slowdown in deliveries, due to macro headwinds.
Friday brought some good news, with the University of Michigan inflation expectations survey showing expectations for future inflation declining. Median long-term (5-10 year) inflation expectations came in at 2.8%, down from the 2.9-3.1% range for the first time since July 2021. Expectations for 1 year inflation dropped to 4.6% from 4.8% a month prior. The latest UMich data may ameliorate concerns that high inflation expectations would become entrenched as they did in the 1970s. In his remarks at the Cato Institute’s Monetary Conference last week, Powell reiterated his stance that the Fed must act swiftly and decisively to bring down inflation in order to prevent expectations from becoming ingrained as they did in the Volcker era. Powell recalled that the public’s expectations of high inflation remaining the norm contributed to the difficulties in tampering inflation.
It may be helpful here to recall that Volcker’s anti-inflation program started when UMIch consumer inflation was at an all time high (10% for 1Y, and 9% 5-10Y). Volcker abandoned harsh measures in October 1982 when consumer inflation figures plummeted to 3% for the 1Y and 5% for the 5-10Y.
While the University of Michigan’s 1 Year inflation expectation came in at 4.6%, the inflation swaps market is showing a 3.4% change in the next year. Inflation continues to be one of the main focuses of investors.
In his most recent report, Tom Lee pointed out that if June 2022’s CPI print of over 9% YoY was, in fact, the peak of inflation, then equities should be able to hold the June low.
In light of this mixed bag of news, it may be helpful to consider how news is getting priced into the market these days. This week in our research huddle, our head of Portfolio Strategy, Brian Rauscher, made the point that with regards to economic data, good news = bad for markets and bad news = bad for markets. Naturally, bad economic data bodes poorly, and good economic data could encourage the Fed to be more hawkish. If that’s the case, you may be wondering: is there any such thing as good news for the markets these days? We think the answer is yes, in the form of leading indicators, which are displaying disinflationary tendencies. Our head of research, Tom Lee, sees the market sell-off after the CPI news as an over-reaction, juxtaposing the “wage-pressure driven CPI rising” with soft business surveys of late (UMich, NFIB, ISM). Mark Newton added that in times of immense selling pressure, stocks can follow cycles over fundamental news, adding that a notorious “bear-killer” month is ahead of us, and his cycles turn up in early October after a few weeks of weakening, which should create a dip-buying opportunity for investors.
August CPI was released this week and numbers exceeded consensus expectations, with actual YoY CPI elevating to 8.3%, 20 bps higher than the 8.1% expected. On a MoM basis, prices were up 0.1%, again outpacing the -0.1% survey-expected figure. As shown below, the implied Federal Funds Rate has been pushed up as market participants expect even tighter economic conditions amidst the recent hot CPI release.
The CPI release had several implications for the broader market as major indices tumbled in the biggest selling spree since June, 2020. The Dow fell -3.94%, the S&P 500 tumbled -4.32%, and the NASDAQ did a 180 degree nosedive, finishing Tuesday down -5.16%.
While the headline CPI number was indeed higher than expected, our very own Tom Lee points out that 6 out of 9 regions are actually seeing deflation MoM, which bodes well for the future outlook of price pressures. He notes that “6 of 9 regions saw outright declines in CPI representing 73% of US GDP.” In July, this was 5 of 9 regions, representing 49% of GDP.”
Another headwind for markets was narrowly avoided Thursday morning, when the White House announced a tentative deal had been reached and the looming railroad strike would not proceed. As Tom Block, our Head of US Policy, stated, the economic consequences of a rail strike would have been disastrous. According to the U.S. Department of Transportation, rail accounts for 28% of ton-miles of freight transported in the U.S.
There was no discernible market reaction to the tentative deal as the market was preoccupied with CPI headlines. However, the potential to avoid a prolonged strike is a supply chain disaster avoided.
Next week’s FOMC remains the key event to watch. We hope you have an excellent weekend!