Evening Brief – 05.10.23

The consumer price index for April rose 0.4%, matching expectations, with an annual increase of 4.9%, slightly cooler than the 5% estimate. Core prices rose in line with estimates, up 0.4%, with an annual increase of 5.5%.

The first headline year-over-year print below 5%, the lowest in over two years, was enough to shift the odds for a June rate hike, which were reduced by more than half, from over 20% to 5%.

Keep in mind the big picture, the overall CPI has been progressively falling after reaching a peak of 9.1% in the first half of last year. While there has been some turbulence there has been significant progress.

Although there is still one CPI report left before the June FOMC decision, it is unlikely we will witness a significant increase in annual inflation, especially now that housing and rent inflation have likely reached their peak.

The initial rally in interest rates and bull steepening of the curve were likely justified considering the report, which had encouraging information for future inflation. Despite this being just one data set, the trend did not reaccelerate as some had expected.

A market that is still unconcerned about price increases persisting well into the future is shown by declining inflation breakeven rates (the 10-year breakeven rate is currently 2.23% and has been in a downtrend since peaking at 2.92% in April 2022). While there is still the risk of them turning higher again, the Fed should be relieved and likely to pause at the June meeting.

With core CPI still somewhat “sticky” at 5.5%, keep in mind that historically, rates have usually been higher than inflation, except for recessions. In other words, monetary policy can be restrictive without rates increasing.

There is currently a 95% chance that the Fed won’t increase interest rates next month. However, positioning also indicates there is a 76% chance of a cut by September and a 97% chance the Fed will lower rates by at least a half percentage point by the end of the year.