The upcoming release of the July Consumer Price Index (CPI) inflation report on Wednesday holds significant weight for investors and the Federal Reserve. This report will offer crucial insights into the current inflationary landscape and influence the Fed’s decision on interest rate adjustments at its September meeting.
Depending on the inflation data, the market could gain clarity on whether to anticipate a modest or substantial interest rate cut. A significant slowdown in inflation, exceeding expectations, would strengthen the belief that inflation is approaching the Fed’s target of 2%. This scenario would likely encourage traders to increase their bets on a larger rate cut by 50 basis points in September.
However, if inflation aligns with or exceeds expectations, it could signal a setback in the disinflationary trend, increasing the likelihood of a more conservative 0.25% rate cut. Currently, market sentiment is nearly evenly divided, with a 50-50 chance assigned to both a 25-basis-point cut and a more substantial 50-basis-point reduction.
Economist Expectations for July CPI:
The consensus among economists, as tracked by TradingEconomics, predicts a year-over-year rise in the CPI index of 2.9% in July 2024. This would mark a slight decrease from the 3% increase observed in June. On a monthly basis, the CPI is projected to edge up by 0.2%, rebounding from the previous month’s decline of 0.1%.
Excluding volatile categories such as energy and food, the core CPI is forecasted to rise by 3.2% year-over-year, a slight decrease from June’s 3.3% increase. On a monthly basis, the core CPI is anticipated to advance by 0.2%, up from the 0.1% rise reported in June.
The Cleveland Fed’s Inflation Nowcasting model predicts that the headline CPI and core CPI will both increase by 3% and 3.3% year-over-year, respectively, or 0.24% and 0.27% month-over-month, in July.
Bank of America’s Perspective on July Inflation Data:
Bank of America economist Michael Gapen anticipates a reversal of some of the downside inflation surprise observed in June. While acknowledging the downside risks to economic activity, the investment bank believes concerns about a hard landing are overstated. They also maintain a low probability of the Fed needing to implement large or inter-meeting rate cuts.
Bank of America expects both headline and core CPI inflation to rise by 0.25% and 0.22% month-over-month, translating to 3.0% and 3.3% year-over-year, respectively. They further indicated that if shelter inflation records another 0.3% monthly increase, the Fed’s confidence in the disinflationary trend could be further bolstered. The bank continues to project 25-basis-point rate cuts from the Fed in both September and December.
Market Reactions to Inflation Reports:
The June inflation report, released on July 11, presented a downside surprise in the consumer price index. Headline CPI inflation slowed from 3.3% in May 2024 to 3% in June 2024 on a year-over-year basis, falling short of the 3.1% economists had anticipated. The monthly reading notably declined by 0.1%, marking the first month-over-month contraction in the CPI since May 2020.
Core inflation also decelerated, coming in at 3.3% year-over-year, below the 3.4% consensus estimate and down from the previous 3.4% reading. Despite the cooler-than-expected inflation data, markets responded negatively. The report heightened expectations for Fed rate cuts but prompted traders to move away from growth-linked assets like stocks, seeking refuge in recession hedges such as bonds and gold.
The S&P 500, tracked by the SPDR S&P 500 ETF Trust SPY, fell 0.9%. The Nasdaq 100, tracked by the Invesco QQQ Trust QQQ, tumbled 2.2%. U.S. Treasury bonds, followed by the iShares 20+ Year Treasury Bond ETF TLT, rallied 1%. Gold, tracked by the SPDR Gold Trust GLD, soared 1.8%. The U.S. Dollar Index (DXY), as tracked by the Invesco DB USD Index Bullish Fund ETF UUP, fell 0.5%.
