CPI Numbers Arrive As Expected—Will A Fed Rate Pause Do The Same?

(Wednesday market open) Today’s much-anticipated consumer inflation data came in right down the middle, offering no real surprises but solidifying expectations that the Federal Reserve might pause its long rate-hike cycle when it meets next month.

April’s Consumer Price Index (CPI) data showed a rise of 0.4% for both the headline and core readings (the core strips out energy and food costs), exactly as analysts had expected. Major stock indexes, which were down ahead of the report in premarket trading, turned higher after the data. The 10-year Treasury yield slipped. The futures market now indicates lower chances of a June rate hike.

Major indexes ended mostly lower Tuesday, and the S&P 500 Index® (SPX) is down so far this week. Generally, stocks were range-bound the last two days, with investors apparently waiting for inflation data and any signs of debt ceiling progress before making major moves.

Retail sales data and earnings from many of the “big box” retailers loom next week, but the market could be entering a quieter period after all the ruckus of the last three weeks. Or, rather, it would be if it weren’t for the debt ceiling debate, which might be a reason why volatility rose yesterday.

Semiconductor stocks and other technology shares were among the weakest performers Tuesday, with materials and health care also slightly lower. Energy companies were among the strongest.

Morning rush

• The 10-year Treasury note yield (TNX) fell 4 basis points to 3.46% after the CPI data.
• The U.S. Dollar Index ($DXY) was down slightly at 101.39.
• The Cboe Volatility Index® (VIX) futures fell to 16.96, back near recent lows.
• WTI Crude Oil (/CL) fell to $72.94 per barrel after a surprise gain in U.S. stockpiles.

The debt ceiling debate likely remains a key driver of Treasury yields in the short run. “If it seems like the outlook for some sort of resolution is low, we’d expect to see a lot of volatility in the Treasury bill market,” says Collin Martin, a director of fixed income strategy, at the Schwab Center for Financial Research. “Treasury bills maturing before June 1 are trading at a premium price as investors want the certainty of a timely repayment.”

Just In

Today’s in-line inflation data might reinforce perceptions that the Fed could pause its rate hikes in June. The 0.4% gains in both core and headline inflation need to be seen in context, as higher energy prices in April likely pushed the headline figure up from its small 0.1% gain in March. The 0.4% core reading in April was sequentially unchanged, with used cars and trucks up 4.4% buoying the data.

The debt ceiling remains this week’s other key story. Michael Townsend, managing director of legislative and regulatory affairs at Schwab, says a big breakthrough appears unlikely. “Expect the stalemate to continue,” he says. “But watch for the tone of statements from the participants in the negotiations to see if things are starting to move in a positive direction.”

Keep in mind that despite this week’s early softness in the markets, major indexes for the most part remain near the recent high points of their long-term ranges. It could be tough for any rallies to gain traction with the overhang of the debt ceiling.

Stocks in the Spotlight

Cinderella story: Earnings from Disney (DIS) are due out after the close. The company’s streaming business faces firm competition, and DIS recently announced a second round of layoffs that ultimately will reduce head count by 7,000. Today’s earnings report and conference call could help investors learn whether DIS has additional trims in its glass slippers. Theme parks and hotels might get a lift from solid consumer spending. There’s also the matter of the company’s recent legal disputes with Florida Governor Ron DeSantis.

Analysts expect DIS to report earnings per share of $0.93, according to Yahoo Finance, down from $1.08 in the same quarter a year ago. They see revenue rising 7.5% year-over-year to $21.79 billion.

Eye on the Fed

The probability of a June rate hike now stands at 12% after the CPI report, according to the CME FedWatch Tool. That’s down from 21% yesterday. The tool prices in about a 99% chance that the Federal Reserve will cut rates by the end of this year. However, the Fed didn’t drop any hints last week about chances for rates to fall and left the door open to raise rates.

What to Watch

PPI up next: The April Producer Price Index (PPI) follows CPI on Thursday morning. March PPI, if you’ll recall, cheered investors by showing declines of 0.5% and 0.1% in headline and core PPI, respectively. Much of the headline decline, however, resulted from falling energy prices in March. But energy costs spiked in April, so tomorrow’s PPI won’t have that tailwind. Analysts expect to see 0.3% increases in both headline and core PPI for April, according to Briefing.com. Not dreadful, but certainly not the type of data that suggest less price pressure in the wholesale market.

Remember to listen closely for reactions to CPI and PPI this week from some of the scheduled Fed speakers. There are signs already from other data—like April wage growth—that the Fed is having less progress against rising prices. New York Fed President John Williams said yesterday, “We haven’t said we’re done raising rates,” CNBC reports.

Staking claims: Tomorrow’s initial jobless claims report, due before the open, is expected to come in at 247,000, according to Briefing.com, up from 242,000 the prior week. The pace of claims remains far south of where it normally is leading into recessions. That level (since 1980) has averaged above 375,000, Briefing.com notes. While past isn’t precedent, data suggests claims would likely spike if a recession were gathering steam.

Shortages to gluts: The labor markets suffered an extended period of tightness after the pandemic, but there are signs this could be shifting to a glut of workers.  Will the pace be fast enough to bring down core inflation materially by year-end and provide relief to central bankers? Jeffrey Kleintop, Schwab’s chief global investment strategist, discusses the jobs picture and how it might affect rates in his newest post.

Thinking cap

Ideas to mull as you trade or invest

Staying away in droves: “Defensive” sectors like utilities, health care and staples have been lackluster year-to-date. All three trail the S&P 500® index’s (SPX) 7% gains so far in 2023, with utilities and health care both in the red. Of course, the SPX benefits greatly from the impact of several “mega-cap” tech stocks like Apple (AAPL), Meta (META), and Microsoft (MSFT), which together form a good percentage of the index’s weight and drove it higher this year despite sluggish performance from many smaller SPX stocks. But defensive sectors do face real struggles in a high-rate environment. Traditionally, investors pursue defensive sectors for their dividends. But with many CDs and Treasuries offering rates of 4% or better on a relatively short-term basis, it’s hard for dividend-paying stocks—which are riskier than Treasuries or CDs by their very nature—to get much traction. The SPX’s current dividend yield is a lowly 1.65%. Investors seem to be voting with their feet as they head toward less risky assets outside of the stock market and toward stock sectors that have the reputation of offering more growth, though growth stocks can be more volatile, as well.

Buy now, pay…now? Banks continue to tighten the screws on credit, according to the quarterly Senior Loan Officer Opinion survey from the Fed this week. The percentage of respondents reporting a tighter loan environment is elevated from the historic average, and demand for commercial and industrial loans fell, the Fed said. Banks aren’t the only ones scaling back credit. So are some “buy now, pay later” apps, according to The Wall Street Journal. “Higher interest rates and recession concerns are challenging the business model behind services such as Affirm (AFRM), Klarna and Sezzle (SZL), which say they are tightening credit standards to focus on making a profit, rather than growth,” the paper reported this week. “Some customers say they have been caught off guard by unexpected denials or lower spending limits when they try to make purchases.” These services allow buyers to split the cost of purchases into three or four payments, often with little interest, and grew popular during the pandemic when everyone was at home shopping online. Higher rates could end the fun for customers seen as credit risks.

Royal hangover: After last weekend’s coronation, the mother country is back in the news. The Bank of England (BoE) is expected to raise rates another quarter-point tomorrow, according to analyst consensus from Trading Economics. Of all the European economies, inflation appears most entrenched in the U.K., at above 10%, and the BoE raised rates 25 basis points in March. Economists expect inflation to ease later this year, but growth is slowing. Analysts expect flat month-over-month Gross Domestic Product (GDP) when the UK reports March data later this week.

Calendar

May 11: April Producer Price Index (PPI) and core PPI and expected earnings from JD.com (JD).

May 12: Preliminary May University of Michigan Consumer Sentiment

May 15: May Empire State Manufacturing

May 16: April Retail Sales and expected earnings from Home Depot (HD).

May 17: April Housing Starts and Building Permits, and expected earnings from Target (TGT).

 

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

 

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