By Greg Lai and Alex Hsiao, Co-Chief Investment Officers
The latest report on U.S. consumer prices from the Bureau of Labor Statistics (BLS) was a high-stakes release, with many expecting a Q3 rate cut could hinge on whether June data confirmed the favorable trend established by cooling inflation in April and May. Those holding their breath could exhale with relief as headline CPI declined by 0.1% month-over-month versus a consensus among economists that prices would rise by 0.1%. That’s even better than May’s flat CPI print, which marks the first drop in prices since the early days of the pandemic (see chart).
That small monthly drop implied a bigger move down in year-over-year CPI, which fell from 3.3% in May to 3% in June, a tick below what economists expected. Energy was a meaningful contributor, with gas prices slipping 3.8% from May. Even so, core inflation likewise surprised to the downside, rising just 0.1% in June versus a consensus increase of 0.2%. There was even good news on sticky shelter prices, which posted their smallest month-over-month increase in three years, rising 0.2%—though we must note that still corresponds to a 5.2% year-over-year move.
Chances of September cut on the rise
The rosy inflation report had some calling for a July cut from the Fed, though it won’t surprise readers to hear we don’t see things happening quite that fast. We believe this report meaningfully increases the chances of easing, beginning in September. CME Group reports traders’ bets currently imply a 90% likelihood of a September cut, up from 70% just before the CPI release and a mere 60% at the beginning of July. At this point, we expect the Fed to message a September cut at the July FOMC. Even so, data from now until September will matter as much as ever.
The risk of overshooting moves to the fore.
The Fed has talked about “two-sided risk” facing the U.S. economy: In chair Jay Powell’s words, the bank may “loosen policy too late or too little” on the one hand, versus “too much or too soon” on the other. While both risks seem to have reduced in the last few months, we see the risk of a hard landing, given signs the economy is cooling, as becoming the more pronounced of the two. And what is the risk on the inflation front? Friday’s report on producer prices showed PPI—thought to presage moves in consumer prices—rising 0.2% in June, against expectations of a mere 0.1% increase.
Footnote: Reprinted and revised with permission from Rayliant Investment Research in partnership with Affinity Investment Advisors.
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