U.S. Inflation gives markets and Fed a little breathing space

A flurry of eye-catching headlines around Tuesday’s monthly U.S. inflation update didn’t obscure easier optics for risky markets.

CPI dressed in strong clothing

February’s spike in wage growth looks even more like a false alarm. The market’s handle on underlying price in February growth was accurate. And the ‘nothing to see here’ message was backed by headline data sh0wing a 2.2% rise as energy market effervescence faded. More to the point, many non-energy elements that propelled prices in January also softened. These included telec0mmunications, cars, pharma and other medical products. The exception was clothing, prices of which paced last month’s multi-year growth. In many ways, that was also problematic for the normalisation thesis. Unusual apparel price trends suggest the appearance of relative stability overall may be flattered by exceptional conditions. In other words, the question is raised as to whether February’s underlying CPI could be classed as soft.

Fed pressure eases

Still, Tuesday’s readings are the most up to date available before next week’s FOMC meeting and statement. Afterwards, new Fed Chair Jerome Powell will face his first post-policy meeting press conference. It would be a punchy strategy at such a first showing, based on current data, to leave a potential fourth interest rate rise amongst the range of reasonable probabilities. An update on business pricing trends coming on Wednesday (PPI) together with January output data will add further colour to Fed expectations. Even so, they are unlikely to be stronger near-term influences on rate expectations than consumer data. The Fed also customarily looks through the retail volume data that will be aired tomorrow.

Dollar relapse gathers pace

The heat coming off the Fed is our best guess as to why market participants have increasingly stood aside from a relapsing dollar in recent sessions, as its decline from early-March’s six week highs gathers pace. This time, the move is in step with instead of inverse to easing Treasury yields. However, the latter were only around 10 basis points off their late-February peak at last look, a reminder that the closer we get to market borrowing costs, the more tightly wound rate expectations remain. For instance, Treasury bill rates on Monday caught up with Libor to reach their most taut since 2008. That points to rising marginal costs for banks and investors, just as shorter-term yields approach equity-market averages.

One eye on the revolving door

Meanwhile, the latest exit of a senior White House official – Secretary of State Rex Tillerson – was not exactly a surprise, though it confirmed the administration was unlikely to be seen as having found its moorings in the near term. CIA Director Mike Pompeo, the appointee likely to replace Tillerson, has often voiced very similar views to the President’s. Continuity could at least mean affairs of State do not take a radical turn from here, which would be de facto market-friendly. Pompeo’s government and political experience could also fix hints of a political vacuum in a State department that did not differentiate itself—to the market and beyond—from the White House under Tillerson.

The revolving door keeps turning though. And whilst market reactions to Washington flux remain largely neutral, the spectacle doesn’t provide a stable backdrop for Wall Street. Likewise, recent economic readings have moved the dial back to goldilocks territory, but they won’t stand down FOMC voices looking ahead of the curve. As major U.S. stock indices return to early-year peaks, there are still few reasons to expect further gains to be as sure-footed as last year’s.

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