A higher-than-expected January inflation reading has pushed out Wall Street’s collective forecast for interest-rate decreases in 2024. Markets now don’t expect a cut until June, and a resumption of Federal Reserve rate increases could even be in play.
Stocks sold off on Tuesday, with the
S&P 500
and
Dow Jones Industrial Average
down 1.4%. Bond yields jumped—the
two-year U.S. Treasury note yield
hit 4.65% today, up by 0.19 percentage point to its highest level in about two months.
The path to 2% annual inflation isn’t a smooth one, and the data wasn’t investors’ friend on Tuesday. The Consumer Price Index increased by 0.3% in January, a tenth of a point more than expected and up 3.1% from a year earlier. The core CPI, which excludes volatile food and energy components, rose 0.4% last month to stretch its 12-month gain to 3.9%—matching the December change and arresting a trend of declining inflation in place for most of the past year.
“This morning’s CPI report is a reminder that inflation is a difficult, not-well-understood problem that doesn’t move in a straight line,” wrote Chris Zaccarelli, Chief Investment Officer for Independent Advisor Alliance, on Tuesday morning. “It not only throws the timing of Fed rate cuts into question, but potentially opens the door to a possibility that we haven’t seen the last Fed interest-rate hike in this cycle.”
That would likely take another hot inflation print for February and some hawkish remarks from Fed officials. For now, interest-rate futures pricing on Tuesday morning implied a less than 10% chance that the Federal Open Market Committee will lower its rate target next month, down from nearly 80% a month earlier, and no chance of a hike. Odds for the FOMC’s May decision have shifted too, to also favor no change in rates. As recently as mid-January, the market was pricing in an 83% likelihood of at least two cuts by then.
The Fed is in wait-and-see mode, with Chairman Jerome Powell recently emphasizing that while inflation has come down significantly from its peak, policymakers are unconvinced that the battle has been won. “The lower inflation readings over the second half of last year are welcome,” Powell said at his post-FOMC meeting press conference on Jan. 31. “But we will need to see continuing evidence to build confidence that inflation is moving down sustainably toward our goal.”
January provided evidence to the contrary, as services inflation remained sticky. Shelter prices and wage gains in a tight U.S. labor market are putting upward pressure on prices.
Markets—and the Fed—will remain sensitive to the monthly inflation readings, as the debate over inflation’s path rages on. Since the pandemic, the economic data have been unusually difficult to predict and have proven professional prognosticators wrong again and again.
Expect arguments on both sides, with some pointing to a strong economy and job market causing resurgent inflation and putting rate increases back on the table, while others see a continued glide path to lower price increases and rate cuts.
“We remain comfortable with our call for rate cuts to begin in June,” wrote BofA Securities economists on Tuesday morning. “While risks are now obviously skewed toward a delay, there will be four more CPI prints before the June decision, which leaves plenty of time to re-establish the disinflation narrative if (as we expect) the January inflation data prove to be a blip rather than the start of a new trend.”
Meanwhile, perhaps investors should take a page out of the Fed’s book and admit they’ll have to wait and see.
Write to Nicholas Jasinski at [email protected]
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