Here’s why the stock market is raging over new inflation data

• Equity investors are less pleased with August’s inflation numbers.

• Core inflation rose unexpectedly, dashing hopes for a bigger rate cut from the Fed.

• Traders are now faced with the reality that rates are staying higher for longer.

The stock market has another breakout.

U.S. stocks tumbled on Wednesday, with the Dow down as much as 600 basis points early in the morning as traders took in a mixed bag of inflation data.

The consumer price index for August showed prices rose 2.5 percent on an annual basis, according to the Bureau of Labor Statistics. This is the lowest headline inflation rate since the start of 2021. However, core inflation, which excludes volatile food and energy prices, came in stronger than expected, rising 0.3% for the month , ahead of an expected 0.2% increase.

Investors are scared because of the positive surprise. It’s a sign that inflation is sticky enough to remove the 50-basis-point interest rate hike at the Fed’s next policy meeting, which some investors had been eyeing.

After the CPI reading, markets see an 83% chance the Fed will cut rates by just 25 basis points next week, up from 56% odds at the price a week ago, according to CME’s FedWatch tool.

“Another month, another slightly uncomfortable data point,” Julian Howard, chief multi-asset investment strategist at GAM Investments, said in a note, adding that core and services inflation looked “firmly unbeaten.” in the last digits.

“However, it appears that at least a full 0.5% reduction has become slightly less compelling. Apart from anything else, the Fed’s dual mandate means it can’t build its case for aggressive tapering, or indeed any tapering, around just easing. the labor market”, he added later.

While markets may be upset by weaker prospects for a bigger rate cut, a 50 basis point move by the Fed would be a double-edged sword. The 50 basis point rate cut could have alerted markets that the Fed was worried about a significant economic slowdown, analysts noted in recent weeks. On the other hand, cutting interest rates by just 25 basis points means more for longer interest rates.

Investors are now paying close attention to the labor market for signs of further weakness. Thursday’s jobless claims will be the next entry into the labor market ahead of next week’s Fed meeting.

“The labor market will continue to be a driving factor,” Gina Bolvin, president of Bolvin Wealth Management Group, said in a statement. “Today’s inflation data cemented a 25 basis point cut next week with 50 basis points in the window,” she added.

The story continues

Housing costs were the main driver of inflation, the Labor Department said, noting that shelter inflation rose another 0.5 percent in August.

Housing costs may soon drop, however, with market rent growth expected to be about 2 percent year-over-year, according to Preston Caldwell, U.S. economist at Morningstar.

“As long as this remains in place, housing inflation must inevitably decline,” he said in a note.

Even after controlling for expectations, markets still expect modest rate cuts from the Fed by the end of the year. Investors have an 84% chance the Fed will cut rates by 100 basis points or more by December, although future rate cuts will continue to be contingent on jobs and inflation data.

“If the economy continues to slow — and doesn’t fall into a sharp recession — the Fed will be able to cut at a measured, 25 bps-per-session pace,” said Chris Zacarelli, chief investment officer of the Independent Advisor Alliance. a note.

“Given the current situation, with a Fed rate cut, unemployment near multi-decade lows and an expanding (albeit slowing) economy, the market should be able to recover to all-time highs once we get past the volatility ahead presidential majority. elections,” he added.

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