Inflation Slowing On The Consumer End As Market Awaits Tomorrow's Report On Producer Costs

These days, monthly inflation reports carry almost as much weight in the market as monthly job reports. Today’s consumer price index for July came in around expectations, meaning the impact on Wall Street might not be too heavy.

Consumer prices rose 0.5%, right on target with the average analyst consensus and down from 0.9% a month early. Year-over-year, the headline consumer price index (CPI) rose 5.4%. A couple of years ago, that would have sounded like a pretty far-out number, but today it might ease some fears by suggesting inflation hasn’t moved much higher than where it was a month ago.

The core inflation number that strips out food and energy rose 4.3%, and may be worth a closer look because it’s a little less likely to get blown around by the ups and downs of the gasoline market.

The key question out there now, which we’ll address lower down, is whether today’s inflation print might give the Fed more ammunition in any attempt to start tapering its stimulus program. That remains to be seen, but there’s nothing in the CPI that looks too dramatic.

Producer Prices Up Next

CPI was the highlight this morning, and that’s followed quickly by July producer prices tomorrow. That report is expected to show 0.5% overall growth from June, which would be slower than 1% growth the previous month. In normal times, the 0.5% Wall Street consensus would appear pretty high, but in the current era where prices have been pushing higher almost all year, 0.5% sounds relatively tame. Last time out, final services demand accounted for most of the gains, so we’ll see if there was follow-through In July.

Remember, producer prices often can be even more of a barometer than consumer prices. Companies that face higher prices in the wholesale market can either pass those along to customers—which can hurt demand—or absorb the higher costs, which can hurt company margins. The Fed has said current inflation is “transitory” but also acknowledged it’s been a stronger wave than the central bank had expected.

While most of the focus today is probably going to be on inflation, crude is also worth keeping an eye on. It’s been all over the place this week and this morning it’s back below $67 a barrel after topping $68 yesterday. The headlines today say one contributing factor to the drop is the White House telling OPEC to boost production. Whatever the reason for today’s losses, for the moment crude seems to be our Delta variant barometer. When fears of Delta rise, crude goes down, and vice versa.

Speaking of barometers, airlines have been a virus barometer for a long time. Today, they might come under pressure amid news that Southwest LUV has had a lot of cancellations. The company also said it’s seen a slowdown in near-term bookings and that operating revenue for August will be lower than it previously thought. It sounds like Delta (the virus, not the airline competitor) could be taking a bite out of travel plans.

Fed Becoming Life Of The Party?

There’s a bit of a buzz on Wall Street we haven’t seen in a while. It’s not just that major indices keep posting new highs or excitement over bitcoin’s recent gains. It also reflects growing sentiment that the Fed could be on the verge of announcing a policy change.

Now having said that, it’s nothing they’re going to surprise investors with. At least not if Fed Chairman Jerome Powell keeps his promise to provide a long runway in announcing any changes in the central bank’s approach. Instead, it’s more like a long glide into the airport, where landing means the Fed announces a start date to taper some of its stimulus.

The talk began last week when Dallas Fed President Robert Kaplan called for a gradual, balanced bond purchase tapering sooner rather than later. Since then, the dollar index has steadily risen, gold has been on the run, and the benchmark 10-year yield clawed back above 1.3% after falling as low as 1.12% just a week ago.

No single Fed governor can set policy, obviously, but Kaplan isn’t the only reason there’s a buzz. Morgan Stanley MS came out with a report early this week suggesting the Fed might announce tapering by the end of this year, begin tapering Jan. 1, and then raise rates in Q2 2023. That’s a bit earlier than many analysts had expected, and it remains to be seen if MS has it right. There may be clues later this month when Powell delivers his Jackson Hole speech or in the Fed minutes from its late July meeting that are scheduled for release a week from today.

MS says its estimates are based on progress in the labor market following two straight months of huge job gains. The Fed is focused more on the labor situation than inflation, MS said, and there’s optimism that jobs could continue getting filled as the school year begins (see more below) and Covid-related unemployment benefits expire. By the end of the year, MS said, the job losses from Covid could be closing the gap and be about halfway back to pre-Covid levels.

The Fed has said it wants to see actual progress toward its unemployment goals ahead of any policy move. It’s a “show me the money” type of approach where instead of trying to anticipate, the Fed actually wants a bird in hand before pulling any levers. There’s more thought on the Street that despite Delta, that bird may be coming in for a landing sometime this fall.

This all makes the next six weeks—highlighted by Fed minutes next week, the Jackson Hole speech late this month, and the next Fed meeting in just over a month—stand out in terms of policy focus. We should know a lot more by late September than we do now.

CHART OF THE DAY: GREEN MACHINE. The U.S. Dollar Index ($DXY—candlestick) is on a roll, though to be fair some of its strength is more a reflection of current weakness in the Euro and worries about the European economy instead of bullishness over the dollar itself. The $DXY has now spent more consecutive days above its 200-day moving average (blue line) than at any point since the pandemic hit in the spring of last year. Some of the dollar strength might reflect impressions that the Fed could get more hawkish. Data source: ICE. Chart source: The thinkorswim® platform. For illustrative purposes only. Past performance does not guarantee future results. 

Blue Chip Bump Thanks To Rates, Congress: Rapidly rising Treasury yields appeared to help breathe some life into blue-chip cyclical like the big banks and Energy firms this week. Those improved yields could indicate improvement in the U.S. economy, which tends to help stocks in sectors that often depend on a tailwind from the macro environment.

Meanwhile, steel and mining firms got a nice jolt Tuesday from the Senate passing the infrastructure bill, though as we said yesterday, that one still has a long path to becoming the law of the land. For now, it’s not fair to steal the thunder from stocks like U.S. Steel X and Nucor NUE, which lifted off in a big way on the news.

So who’s on the other side of the ledger as cyclical and steel pick up steam? Technology. Most of the big tech firms were in the red Tuesday, making the tech-heavy Nasdaq GIDS the weakest performer of the big-three indices. The Dow Jones Industrial Average ($DJI), which is packed with banks and energy firms, had the best day of the three.

Crude Future: You often hear about how crude prices can help or hurt stocks. The focus is usually on front-month crude futures, which bounced back nicely from Monday’s lows. What we don’t often hear about but could be worth monitoring is what the market projects crude prices to be moving forward. At this point, the market is in “backwardation,” which means prices of contracts expiring in coming months and years trade below the front month.

A “backwardation” market is one where traders expect prices to fall over time. You don’t have to dig too deep into the CME crude futures complex to see that. By the end of the year, the market trades about 75 cents below today’s price. The price falls below $65 by next February and below $64 by next April.

Trading gets much thinner the farther out you go, but it’s interesting to note that the December 2024 contract has had some action lately at a price below $55. You have to go back to early February 2021 to find a price that low. While that contract has many years of trading ahead and certainly could move higher, its current discount could indicate that investors expect crude production to eventually begin catching up with demand. Or it could mean people are worried the economic recovery won’t last.

Retail Investing Trends To Watch? This week’s Investor Movement Index® (IMXSM) showed a couple of interesting trends in the retail investor world. First, it looks like people are learning about using rising prices as possible selling points for at least some of their shares. Apple AAPL hit a 52-week high in July, and investors tracked by IMX reduced their positions in the stock. Tesla TSLA also saw some selling as prices rose from a near-term trough.

Another interesting thing was investors’ apparent willingness to buy stocks like Alibaba BABA and Didi Global DIDI despite concerns over the regulatory environment in China. One month is never a trend, but if this continues it may suggest investors aren’t as fearful about putting money into Chinese stocks as some may have thought. Speaking of China, U.S. car companies have big markets there, and Ford F was another stock that attracted retail investors tracked by IMX. Both F and General Motors GM are getting more involved in the electric vehicle market, a reminder that TSLA isn’t the only game in town here. As you may know, F and GM have pretty decent experience with vehicle distribution.

The IMX is TD Ameritrade’s proprietary, behavior-based index, aggregating Main Street investor positions and activity to measure what investors actually were doing and how they were positioned in the markets.

TD Ameritrade® commentary for educational purposes only. Member SIPC.

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