Has CPI actually cooled?
Or did April have us all fooled?
Both Tiff and Lagarde
Have played their first card
Has Jay now been thoroughly schooled?
 
First, if CPI comes in hot
The Chairman will certainly not
Decide to cut rates
And leave the debates
Til things show the damage he’s wrought
 
But if the inflation report
Is nothing at all of that sort
Then many have said
This summer, the Fed
‘Round rate cuts will gather support

 

A quick look at yesterday’s 10-year Treasury auction shows it was far better than the 3-year on Monday with a strong bid/cover ratio of 2.67, its highest since February 2022, and a result where the auction cleared 2bps lower than the pricing ahead of the announcement, a sort of negative tail.  Indirect bidders represented nearly 75% of the bids, so there was real demand for this paper.  Certainly, Janet and Jay are feeling better, and yields fell 6bps on the day.  

As I explained yesterday, the auctions are just one tiny signal in a large body of information, and just like almost everything else, it seems there is no consistency there either.  However, one auction does not a trend make.  One last thing, the strength of the auction ahead of today’s CPI report and FOMC meeting seems somewhat odd given the potential risks attached to both those events.  Generally, investors would prefer to reduce exposure ahead of a big event, not increase it.  This has awakened some conspiracy theorists as to who actually bought the paper.  There is no evidence that there was any behind the scenes Fed activity, but many are trying to figure out the incentive to aggressively bid for bonds ahead of key data.  We need to stay vigilant.  

Ok, on to the CPI this morning.  The current consensus forecasts are for the headline (0.1% M/M and 3.4% Y/Y) and the core (0.3% M/m and 3.5% Y/Y).  During the month of May, wholesale gasoline prices fell nearly 6% which is clearly weighing on the headline monthly outcome.  Of course, that is not a seasonally adjusted number, that is the raw result.  Last month, despite gasoline prices rising a similar amount, in the CPI data, the seasonally adjusted number showed a decline, and that is what is in the report.  That is just one of the many unusual features of the way CPI is calculated, and why it must be carefully considered.  

However, beyond gasoline prices, the indications of rising prices continue to come from things like the ISM Prices paid index for both Manufacturing and Services, as well as the robust wage growth from the NFP report last week.  And certainly, I am hard-pressed to have seen prices do anything but rise in the past month and year based on my personal consumption basket.  But I do not have an econometric model that I use to estimate these things like my good friend the @inflation_guy, who you all should be following on X(Twitter) or at his inflationguy blog.  However, based on the other pricing data we have seen, I expect that the risks to the consensus are on the high side, not the low side.  We shall find out at 8:30.

In this case, I think it is clear that a hot number will result in a sharp decline in bond prices (jump in yields), a rise in the dollar and, at least initially, a decline in equity markets.  Of course, the latter clearly have a life of their own.  A lower-than-expected print should see the opposite, with stocks ripping higher.

And lastly, we turn to this afternoon’s FOMC meeting.  At this point, the only thing that anyone is discussing is the dot plot.  Below is the March edition where the median indicated 3 rate cuts in 2024, but it was very close, a 10-9 outcome with 9 members seeing 2 cuts or less.

Source: federalreserve.gov

As I recall, I was far more interested in the idea that the Longer run rate, which is often defined as R* or the neutral rate, started to creep higher than its recent estimates of 2.5%.  Since the March meeting, there has been an uptick in discussion as to what the longer run rate should be, with every estimate rising some amount.  

As to the immediate situation, given there is a vanishingly small chance they adjust rates today, there are only four meetings left in 2024 so it would seem likely that the maximum number of cuts the updated version of the dot plot will indicate is two.  Personally, I think it will come in at one unless this morning’s CPI is much lower than expectations, although given the ECB managed to cut rates while raising their inflation forecasts, anything is possible in the convoluted world of central banking.  Funnily, the strength of yesterday’s 10-year auction may give them enough confidence that their current policy is not a problem resulting in an estimate of fewer cuts rather than more.

However, the real interest will be Powell’s press conference.  Based on everything we heard from Powell and all his acolytes prior to the quiet period, there certainly seemed to be no rush to cut rates as they still lacked confidence that inflation was going to head back to target.  And, of course, the biggest piece of data we have seen in the interim, last Friday’s NFP number, was much hotter than expected as was the wage data, so it doesn’t seem that he would change that tune.  Thus, much relies on this morning’s CPI and how that may change any opinions on the committee.  While I believe that his underlying desire is to cut rates, there does not yet seem to be an opening to do so.  In the end, my take is that the risk to the market is he is more hawkish than dovish with the corresponding risk-off results.  That’s what makes markets.

Ok, I’ve rambled on a lot already so suffice to say that the overnight price action was generally pretty benign as everyone around the world has been awaiting today’s CPI and FOMC.  Yesterday’s mixed US session was followed by a mixed Asian session with some gainers and some laggards although European bourses are feeling chipper this morning, with all higher by about 0.5%.  As to US futures, they are ever so slightly firmer at this hour (7:00), just 0.1%.

Bond yields around the world have followed Treasuries lower, with the US 10-yr falling one more basis point while all of Europe is down 2bps, except for Italy (-5bps) where the spread to bunds is narrowing on hopes of broader interest rate declines.  Even JGB yields (-4bps) softened last night.  As I have repeatedly explained, as goes the Treasury market, so goes the rest of the global bond market.

Oil prices (+1.1%) are climbing again after inventory data yesterday showed larger draws than expected while metals prices are little changed this morning after another weak session yesterday.

Finally, the dollar is on its back foot, down about -0.15% vs. most of its G10 counterparts save the yen (-0.2%) which continues to drift back toward that 160 level which catalyzed the BOJ’s intervention.  I think the dollar’s movement is the easiest to forecast ahead of the CPI and FOMC as hot CPI will see the dollar rally, as will a hawkish Fed, with the opposite also true in the event that things are cool and/or dovish.

And that’s really all today.  So, buckle up for the 8:30 data and then after that flurry, you can relax until 2:00pm.

Good luck

Adf