Market experts predict that while Friday’s July personal consumption expenditure inflation report would likely comfort investors that the Federal Reserve will likely decrease interest rates initially next month, the stock market will not likely rejoice.
The preferred inflation indicator used by the Fed is predicted to indicate that consumer prices in the United States increased somewhat in July, which would complicate the central bank’s plan to lower policy rates the following month. Investors are concerned that the most recent report might not give the financial markets enough information about how quickly and how far the Fed will easing policy.
The Wall Street Journal poll of economists predicts that the core PCE, a more closely monitored metric that takes out volatile food and energy expenses, would rise to 2.7% from 2.6% in June. Meanwhile, the headline PCE price index is expected to stay stable at 2.5% year over year in July.
The September cut is sufficiently firm that the PCE trend is unlikely to alter it, according to NFJ Investment Group managing director and portfolio manager Burns McKinney. “The Federal Reserve has signaled dovishly and firmly that they will undoubtedly begin the rate-cutting cycle in September,” the statement reads.
In his strongest signal to date, Fed Chair Jerome Powell stated last week that “the time has come” for monetary easing, citing recent economic data that has persuaded decision-makers that inflation is definitely returning to the central bank’s 2% target.
Will the PCE report for July support a scenario of deflation?
Some investors believe it will be difficult to defend the Fed’s “sudden new embrace” of interest rate decreases if the upcoming July inflation statistics come in line with predictions. “Alright, one cut in September. However, it does not seem reasonable to predict several cutbacks off current [PCE] data, according to Barbara Rockefeller, president and chief economist of Rockefeller Treasury Services.
However, some argue that even with the expected slight increase in the core PCE, the disinflation momentum may still hold. “Regardless of what [the data release] does, Powell has always warned against getting too caught up in a single data point, and if you look at the trend, the [disinflation] trend has been pretty well locked in,” McKinney said over the phone to MarketWatch on Tuesday.
Despite the continued risk of energy price shocks, Gregory Daco, chief economist at EY, stated that economic fundamentals point to sustainable disinflation as rising pricing sensitivity, decreasing inflation of shelter costs, slowing wage growth, and robust productivity growth should all continue to push inflation toward the Fed’s 2% target. CL.1 -0.11% CL00 -0.11%
By the end of 2024, his team expects the core PCE to slow to about 2.5% year over year, Daco stated in an email statement on Wednesday.
Investors are divided over the Fed’s future course.
Another key question for financial markets is whether the Fed will begin with a 25- or 50-basis-point rate cut in September, but Friday’s PCE report will do little to resolve the conundrum on the path forward, the analysts said.
It is possible that by staking on substantial rate reduction this year, the markets are getting ahead of themselves. Fed-funds futures traders increased their bet on a half-point rate drop in September from 24% to 36.5% on Wednesday. In the meantime, the CME FedWatch Tool indicates that the chance of a quarter-point cut decreased to 63.5% from nearly 75% a week ago.
The chief investment strategist at Advisors Asset Management, Matt Lloyd, stated that the PCE report no longer has the same influence over the central bank’s policies as it once did. “The labor market is currently the one that will most likely skew whether the next meeting decides to implement 25- or 50-basis-point cuts,” he stated.
Specifically, if August employment data from the Labor Department, which is expected on September 6, mirrors July’s hiring slowdown and a 4.3% unemployment rate, then this data may be pivotal.
What possible reactions might markets have?
According to Lloyd, investors may opt to adopt a “risk neutral” stance as we approach the unofficial end of summer, meaning that the financial markets will not likely respond significantly to Friday’s PCE data in advance of Labor Day weekend. Nonetheless, the August jobs data that comes out next week will be the subject of a “heightened” scrutiny for stocks.
But Lloyd didn’t rule out the chance of volatility surging in the financial markets on Friday, as trading volume is expected to remain light, which may “skew the returns in the Treasuries and equities,” he told BourseWatch in an interview.
This week’s trading volume has been quite low. According to Dow Jones Market Data, Tuesday’s session experienced the lowest stock-market volume since August 28, 2023.
On Thursday, U.S. equities increased as investors were more confident that the economy was poised for a gentle landing following the release of the most recent round of economic data. According to FactSet statistics, the Dow Jones Industrial Average DJIA 0.59% was up 0.5%, the S&P 500 SPX -0.00% was up 0.6%, and the Nasdaq Composite COMP -0.23% was up 0.9%.
