Today it’s about CPI
As Jay and his cadre still try
To push prices lower
Which might mean growth’s slower
But don’t worry, Jay will scrape by

This morning we see the last big data point before the Fed meets in two weeks’ time as CPI is to be released at 8:30am.  According to Bloomberg’s survey, the median expectation is for both headline and core monthly prints of 0.3% with the Y/Y numbers at 3.1% headline and 5.0% core as a result.  There are many who are excited about the prospect of a 2 handle on the headline number as a potential catalyst for the equity market to break out even higher. The idea seems to be that a reading that low will get the Fed to change their tune and not merely stop raising rates but start bringing rate cuts back on the table.  Wishful thinking in my view, but that’s what makes markets.

Even a cursory analysis of the commentary from the plethora of Fed speakers we have heard since the last meeting shows that there is very little willingness to end the current tightening program anytime soon.  Certainly, there is no indication that a cut is even remotely a consideration.  But equity bulls need a story to push their thesis, so there you have it.  The thing is that while this month is clearly going to show a substantial decline on a year over year basis due to the base effects (remember, June 2022 M/M CPI was +1.2%, the peak), next month has the opposite base effect with the July 2022 M/M reading at 0.0%.

As I’m sure all of you are very clearly aware, there is essentially no evidence in our day-to-day llives that indicates prices are declining across the board.  While gasoline prices have certainly fallen from their highs, they appear to have bottomed along with oil, and if you head out to a restaurant, especially one that you frequent, I’m sure you’ve seen the same steady rise in prices that I have.  Remember, too, that CPI measures the change in prices on a monthly or annual basis, not the level of prices.  Absent deflation, something that is incredibly unlikely in the current monetary and fiscal framework, prices are never going back to where they were prior to the pandemic.  I sincerely hope wages continue to rise for all our sakes.

In the end, I continue to look at the employment situation as the critical variable for the Fed as weakness there will be the only thing that deters them from continuing their current mission.  Powell clearly believes that the Silicon Valley Bank situation has been completely contained and that there will be no further concerns to distract them going forward.  Maybe that is correct, but I am wary of accepting the idea that the fastest rate hikes in the Fed’s history are consistent with minimal damage to the economy.  My suspicion is that there will be far more coming, it’s just that refinancings have not been necessary yet.  When companies on the margin need to pay 9% to refinance their 4% coupon, it will result in an even greater uptick in bankruptcies than we have already seen this year and according to Epiq Bankruptcy, a compiler of bankruptcy information, filings have jumped by 68% this year compared to last, with a total of 2,973 in the first six months of the year.  If the Fed continues to tighten, look for this number to rise further, and possibly faster.  

Ahead of the data, the bulls remain in charge of the market with yesterday’s rally having been followed throughout Europe this morning although last night’s Asia session was more mixed.  In fact, one of the best performing markets of the year, Japan, has seen something of a reversal in the past two weeks as the Nikkei has fallen almost 11% while the yen has rallied about 3.5%.  This is no coincidence as much of Japan’s corporate profitability continues to rely on exports and the yen’s recent strength (+0.5% today with the dollar back below 140 again) has clearly been a weight around that market’s neck.  Interestingly, despite the same mercantilist mindset in China, the relation between the Chinese stock market and the renminbi is far less tight.  As it happens, CNY (+0.2%) is a bit firmer this morning but is less than 1% from its bottom while the Chinese stock market continues to flounder, having fallen yet again last night and continuing its downtrend for the year.

Turning to the bond market, 10-year yields have slipped another 2.5bps this morning as for now it appears the market is rejecting that 4.0% level.  Of more interest is the fact that the 2yr yield has fallen faster with the curve inversion down to -90bps.  This is an indication that bond investors are entertaining the idea that inflation is slowing, and the Fed will back off.  Be careful if there is a high CPI print today as that will almost certainly see quite the reversal of this price action.  Regarding the rest of the world, European sovereigns are following Treasuries with yields generally slipping between 2bps and 3bps, but the real surprise is Japan, where yields rose 1.9bps last night and are now at 0.467%, quite close to the YCC cap for the first time in Ueda-san’s tenure.  The combination of rising JGB yields and a stronger yen has a lot of tongues wagging that a policy change is in the offing in Tokyo.  It strikes me that Ueda-san is far more likely to move when the market is not expecting something rather than being seen to respond to pressure from the market.  However, anything is possible there.

WTI is back above $75/bbl this morning for the first time in two months and there are many, this pundit included, who believe that we may have seen the bottom.  Fundamentals like the Saudi production cuts and the Biden administration discussion of refilling the SPR are adding support, as is the fact that while recession continues to be forecast, it has not yet seemed to arrive.  Do not be surprised if we see $80/bbl or higher before the summer is over.  As to metals prices, gold is marginally higher this morning, benefitting from the dollar’s continuing weakness, as are both copper and aluminum.

Finally, talking about the dollar’s weakness, it is widespread with NOK (+0.65%) rallying alongside oil and SEK (+0.5%) also benefitting from commodity prices.  The only G10 laggard is NZD (-0.2%) which seems to have been disappointed that the RBNZ left rates on hold last night.  Speaking of central banks, this morning we hear from the BOC which is expected to raise rates again by 25bps to 5.0% at 10:00am so be attuned for any alternative outcome.

As to the emerging markets, it is a story of modest strength across almost the entire set with no real outstanding stories to highlight.

In addition to CPI, we also get the Fed’s Beige Book this afternoon and we hear from four more Fed speakers starting with Richmond’s Thomas Barkin right when CPI is released.  The only thing that might be interesting is if somebody starts to change the tune, something that I find highly unlikely at this time.

We will have to see the print to have any chance of understanding the next steps, but for now, the dollar is on its heels and absent a strong print, seems likely to test its recent lows before anything else.

Good luck

Adf