The market thinks that last night's CPI numbers will lead to the Federal Reserve cutting by just -0.25% next week. However, interest rate markets are still pricing the US entering recession by the end of the year.
US consumer prices increased by +0.2% in August on a seasonally adjusted basis according to the BLS, the same as in July and in line with expectations.
The annual change fell to +2.5% from +2.9 %in July, also in line with expectations. This was the smallest 12-month increase since February 2021.
Energy prices were the main detractor, falling by -0.8% after a flat July and contributing -0.3% to the annual increase. This was the first monthly decrease in energy prices since February.
Core prices ex-food and energy increased by +0.3%, slightly more than in July and above expectations. However, the annual change in core CPI of +3.2% was the same as July and in line with expectations.
Shelter prices unexpectedly accelerated again from +0.4% in July to +0.5% in August. Shelter prices are up +5.2% yoy and were the main factor driving the increase in the headline index, contributing +1.9% of the total +2.5% annual increase.
The Fed’s “supercore” measure of core services less housing accelerated to +0.33% in August after rising by +0.21% in July, and having declined by -0.04% in May and -0.05% in June. The annual increase was steady at +4.46% yoy.
S&P500 5,554 +1.1%, Nasdaq Comp. 17,396 +2.2%, S&P/ASX200 8,032.3 +0.6%,
US 2yr 3.65% +1bp, US 10yr 3.66% +1bp
US dollar (DXY) index 101.8 +0.1%, AUDUSD 0.6678 +0.1%, Gold US$/oz 2,512 (unch)
Fin-X Wealth View
The shelter component of CPI lags house prices observed in other indices such as the S&P CoreLogic Case-Shiller indices by several months. With the 20-city composite version of this index having peaked in March, it is highly likely that the shelter component will decelerate in the coming months. Given the high contribution of housing, this therefore provides a high degree of confidence that CPI inflation will continue to moderate.
However, PCE inflation, the Fed's preferred measure does not have such a high weighting of shelter. While there is some good news coming from slowing goods prices, which seems likely to continue given the subdued Chinese PPI numbers on Monday (-1.8% yoy), the supercore services index is still showing signs of "stickiness" and a slow return to target. The FOMC will be reluctant to cut aggressively unless the data prompts it to do so. So, the Fed is almost certain to be "behind the curve" with easing.
Following the release of the data last night, the market now sees a -0.25% cut in the Fed Funds rate next week to 5.00% - 5.25% as the most likely outcome. However, the market still thinks that at least one -0.50% cut is likely at one of the next three meetings before Christmas, with a total of -1.1% of easing priced in this year, and -1.4% by the end of January. In other words, the interest rate markets are pricing a "hard landing" for the US economy.
The economy is likely to have a bearing on the November election and, by extension, the next four years' fiscal policy outlook. Kamala Harris has pulled ahead in the bookmaker odds after yesterday's debate and will benefit from the drop in headline inflation. However, it's too soon to rule out a Trump win, especially if the economy and/or stock market weaken substantially in the next couple of months.
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