Stocks Drop as CPI, Weak Bond Auction Lift Yields: Markets Wrap

Stocks fell and Treasury yields rose as data bolstered speculation the Federal Reserve is nowhere near declaring victory over inflation — with bets on another hike back to coinflip territory.

(Bloomberg) — Stocks fell and Treasury yields rose as data bolstered speculation the Federal Reserve is nowhere near declaring victory over inflation — with bets on another hike back to coinflip territory.

The S&P 500 halted a four-day advance. Bank shares underperformed ahead of results from JPMorgan Chase & Co., Citigroup Inc. and Wells Fargo & Co. — which are set to kick off the earnings season Friday. Treasuries dropped across the curve, with the 30-year rate surging as much as 18 basis points after a $20 billion auction of the securities drew weak demand. The dollar gained, following its longest losing streak since March.

Swap contracts pushed the odds of another quarter-point Fed hike back to about 50% — from closer to 30% Wednesday — and expectations for the first rate cut shifted toward July from June.

The so-called core consumer price index, which excludes food and energy costs, increased 0.3% last month. From a year ago, it rose 4.1%, the lowest since 2021. Economists favor the core gauge as a better indicator of underlying inflation than the overall CPI. That measure climbed 0.4%, boosted by energy costs. Forecasters had called for a 0.3% monthly advance in both the overall and core measures.

“As for how this will impact interest rates, at this point, ‘higher-for-longer’ may be more important than ‘how high?’ said Richard Flynn, managing director at Charles Schwab UK. “Whether or not the Fed opts for hikes, it’s unlikely we’ll see rates drop below where they are for as long as the inflation dragon proves difficult to slay.”

While swap contracts continue to anticipate a Fed pivot to rate cuts next year — with about three quarter-point reductions expected — that outcome was assigned somewhat lower odds.

“Bottom line: the Fed can likely pause in November, though it’s a close call, and it remains too soon to consider cuts,” said Don Rissmiller at Strategas.

Yet some analysts and traders don’t think the report was surprising enough to move the needle, especially after a raft of Fed officials speaking this week said the rout in bond markets may suspend the need to tighten further for now.

Fed Governor Christopher Waller noted Wednesday the US central bank can watch and see what happens before taking further action with interest rates as financial markets tighten. Vice Chair Philip Jefferson on Monday said he would “remain cognizant of the tightening in financial conditions through higher bond yields.” And Dallas Fed President Lorie Logan indicated that if risk premiums in the bond market are on the rise, that “could do some of the work of cooling the economy for us, leaving less need for additional monetary policy tightening.”

“We don’t expect any more hikes,” said Matt Bush, US economist at Guggenheim Investments. “I don’t think they’re going to see a great need to come out and hike at the Nov. 1 meeting. And beyond that, we’re going to see signs of a slower economy throughout the fourth quarter, a weaker labor market and that will take more pressure off them to hike again.”

To Tiffany Wilding at Pacific Investment Management Co., the CPI is likely to create some anxiety for Fed policymakers.

“We’ve been skeptical that the Fed would actually deliver the hike projected in the second half of 2023 by the majority of Fed officials, but at this point we are leaning toward them getting it in despite the recent tightening in financial conditions,” she noted. “It’s a very close call.”