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There has been a little deflation in the major indices this week, as some caustic revenue warnings from leading semiconductor companies have take some wind out of their sails. Additionally, some ridiculous price action in the meme stocks has stood out as an end-stage type move in a broader rally effort.
The specter of the July Consumer Price Index (CPI) Report, however, has also been a halting influence. The stock market has battled back nicely from its mid-June lows, spurred in part by a belief that the Federal Reserve is going to pivot to a friendlier policy position sooner rather than later.
The July employment report threw some cold water on the latter notion, but since the employment report is a lagging indicator, there has been some some nervous anticipation leading up to the more current CPI data, with market participants wondering if it will go the way of the employment report or the way of the hopeful pivot expectation.
They need wonder no more.
The July CPI report went the way of the... drumroll please... hopeful pivot expectations.
Total CPI was unchanged month-over-month (Briefing.com consensus +0.2%), leaving it up 8.5% year-over-year versus 9.1% in June. Core CPI, which excludes food and energy, was up 0.3% month-over-month (Briefing.com consensus +0.5%), leaving it up 5.9% year-over-year versus 5.9% in June.
The key takeaway from the report is that it supports the peak inflation view, which in turn supports the market's hope that the Fed will temper its aggressive rate-hike approach in coming months and ultimately transition to a rate-cut cycle in 2023, perhaps as early as the first half of 2023.
That view will be put to the test with every CPI report in coming months, as well as in coming hours, days, and weeks, only because the rate of inflation for total CPI and core CPI is still well above the Fed's 2% inflation target. Also, Fed officials have said that one report does not a convincing trend make.
Nevertheless, the market's initial response to this morning's data is exactly what one would expect. It borders on giddy.
The S&P 500 futures were up 16 points just before the release. They are now up 71 points and are trading 1.7% above fair value. The Nasdaq 100 futures are up 310 points and are trading 2.2% above fair value, and the Dow Jones Industrial Average futures are up 421 points and are trading 1.4% above fair value.
The 2-yr note yield, which is the most sensitive to expected changes in the fed funds rate, was sitting at 3.27% just before the release but now sits at 3.13%, down 13 basis points from yesterday's settlement. The 10-yr note yield, parked at 2.80% before the release, is down seven basis points from yesterday's settlement to 2.73%.
The 2s10s spread remains inverted, but the current move will register as a curve steepener rooted in a belief that inflation is being tamed and that the economy can still be piloted to a soft landing.
That view is an uplifting one for the stock market, so there will be a broad rally effort when trading begins that is paced by leadership from the cyclical sectors and mega-cap stocks. The initial move should have the S&P 500 on the doorstep of 4,200, which, as we said Monday, is where the conviction of the rebound momentum will truly be put to the test.
The July CPI report, though, clearly got a passing grade from a headline standpoint.
