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Weekly Update 07/12/2024: US Inflation Cools as Earnings Season Kicks Off

  • JP Morgan releases earnings beating profit & revenue expectations
  • Wells Fargo releases earnings beating profit & revenue expectations
  • Accenture acquires Canada based True North Solutions and India based Excelmax this week
  • UPS announces appointment of new CFO
  • RTX division Raytheon wins $1.2 billion German contract

Domestic Economic News

US inflation cooled broadly in June to the slowest pace since 2021 on the back of a long-awaited slowdown in housing costs, sending the strongest signal yet that the Federal Reserve can cut interest rates soon. The so-called core consumer price index — which excludes food and energy costs — climbed 0.1% from May, the smallest advance in three years, the Bureau of Labor Statistics figures showed Thursday. The overall measure fell for the first time since the onset of the pandemic, dragged down by cheaper gasoline. Similar to the May CPI report — which Fed Chair Jerome Powell described this week as “really good” following an unexpected flare-up in the first quarter — the June reading will go a long way toward giving Powell and his colleagues the confidence they need to cut rates, likely starting in September. Policymakers will have a chance to signal such a move may be coming when they meet later in July, especially since unemployment has now risen for three straight months. Powell, in testimony before lawmakers this week, avoided signaling the timing of likely rate cuts and insisted policy moves would be guided by incoming data. The Fed chief is set to speak again Monday afternoon in a moderated discussion hosted by the Economic Club of Washington, DC. After the CPI report, Treasuries rallied and traders all but fully priced in September and December rate cuts. They also marked up the odds of a reduction in November to better than even — a move that would come right after the presidential election. Before Thursday, traders and policymakers were divided as to whether there would be just one or two cuts this year.

Shelter prices, which is the largest category within services, climbed 0.2%, the smallest gain since August 2021. Owners’ equivalent rent — a subset of shelter, which is the biggest individual component of the CPI — climbed 0.3%, also the tamest in three years. In addition to slower rent increases, the costs of other services like airfares, hotel stays and inpatient hospital care, all declined from a month earlier. New and used vehicle prices led broader decreases in the core goods basket. The BLS noted that the new vehicles index was estimated with fewer prices than in previous months due to a cyberattack that hit thousands of dealerships in June, but software systems have since been restored. Separate figures Thursday showed recurring applications for jobless benefits held near the highest level since late 2021. At the same time, first-time filings fell by 17,000 last week — matching the largest drop in a year — providing some optimism that the job market is holding up. Excluding housing and energy, services prices fell for a second month, according to Bloomberg calculations. While central bankers have stressed the importance of looking at such a metric when assessing the nation’s inflation trajectory, they compute it based on a separate index. That measure, known as the personal consumption expenditures price index, doesn’t put as much weight on shelter as the CPI does. That helps explain why the PCE gauge has been trending closer to the Fed’s 2% target. The PCE measure, released later this month, draws from the CPI as well as certain categories within the producer price index.

Unfortunately the PPI report released Friday was not quite as encouraging as the CPI report, which was released Thursday. US producer prices climbed in June by slightly more than forecast on a pickup in margins at service providers, offsetting a second month of declines in the cost of goods. The producer price index for final demand rose 0.2% from a month earlier, according to the Bureau of Labor Statistics data published Friday. Compared with a year ago, the PPI rose 2.6%. The PPI report showed services costs increased 0.6%, with nearly all of the advance tied to a 1.9% jump in margins at wholesalers and retailers. Goods prices fell 0.5%. Stripping out food, energy and trade, a less-volatile measure favored by many economists, prices were unchanged. Compared with a year ago, the gauge moderated to a 3.1% rate. Categories in the PPI report that are used to calculate the Fed’s preferred inflation measure — the personal consumption expenditures price index — were mixed. Still, analysts at Morgan Stanley and Capital Economics shaved their core PCE price estimates after the PPI release. Among those categories, physician care costs edged up 0.2%, the cost of hospital outpatient care rose 0.1% and inpatient care climbed 0.5% — all more modest advances than in May. At the same time, airfares increased 1.1% and prices for portfolio management services climbed 1%. The June PCE price gauge is due later this month.

US consumer sentiment unexpectedly declined to the lowest level in eight months in early July as high prices continued to weigh on Americans’ views of their finances and the economy. The sentiment index fell to 66 in July from 68.2, according to the preliminary reading from the University of Michigan. The median estimate in a Bloomberg survey of economists called for a slight increase to 68.5. Consumers’ expectations for inflation over the next year fell for a second month, to 2.9%, data Friday showed. They saw costs rising at an annual rate of 2.9% over the next 5 to 10 years, also edging down from the prior month. “Despite expecting inflation to ease, consumers remain vociferously frustrated at the persistence of high prices,” Joanne Hsu, director of the survey, said in a statement. “Almost half of consumers spontaneously expressed complaints that high prices are eroding their living standards, matching the all-time high reached two years ago.” The University of Michigan also released a special report on inflation expectations, a point of recent concern among economists. It found a divergence between average and median long-run expectations was driven by a small number of consumers and “unlikely to reflect a fundamental deterioration in consumers’ inflation expectations.” The current conditions gauge fell to 64.1 from 65.9, its lowest since December 2022. A measure of expectations also declined to 67.2, an eight-month low, from 69.6 in June. Buying conditions for durable goods dropped to 85, the lowest in just over a year. Consumers’ perception of their financial situation now and in the future deteriorated in July, with each falling to the lowest level since October.

Interest Rate Insight and the Fed

Federal Reserve Chair Jerome Powell said officials are increasingly wary of potential risks to the labor market from high borrowing costs as they seek more evidence inflation is slowing down. Speaking to lawmakers Tuesday, Powell was careful not to offer a timeline for interest-rate cuts, which investors are now betting will begin in September. But he emphasized mounting signs of a cooling job market after government data published July 5 showed a third straight month of rising unemployment. “Elevated inflation is not the only risk we face,” Powell said in prepared remarks before the Senate Banking Committee. “The latest data show that labor-market conditions have now cooled considerably from where they were two years ago—and I wouldn’t have said that until the last couple of readings,” he later added. The Fed chief was on Capitol Hill this week to deliver his semi-annual monetary policy testimony to Congress. He concluded two days of hearings on Wednesday with an appearance before the House Financial Services Committee.

The US central bank is weighing rate cuts after holding its benchmark at a more than two-decade high for nearly a year in a bid to curb inflation. While the labor market has so far largely held up, a slowdown in the jobs data has raised pressure on Fed officials to begin easing policy. Still, the Fed chair emphasized that cutting rates too soon or too much could stall or reverse progress on inflation, which has come down from a peak of 7.1% in June 2022 to 2.6% as of May. “More good data would strengthen our confidence that inflation is moving sustainably toward 2%,” Powell said. His comments confirmed the central bank’s policy-setting Federal Open Market Committee is unlikely to reduce rates when it next meets on July 30-31. Fed officials have welcomed recent data indicating inflation is decelerating again following an unexpected jump in prices at the start of the year, though several have also said they need more confidence that the trend will continue before reducing borrowing costs. A number of economists are warning that there’s a slowdown afoot in the job market that could worsen. The number of people who have been looking for a job for 15 weeks or more rose in June to the highest level since early 2022, when that measure was rapidly declining. When asked during the hearing about a plan to boost capital requirements for the biggest banks, Powell said the Fed and other regulators are close to finalizing changes to the proposal first released in July 2023, and would likely need to seek public comment on the revised plan before finalizing it. The Fed chief told lawmakers in March that he expected “broad and material changes” to the proposal that could require the eight largest US banks to hold about 19% more in capital as a cushion against financial shocks.

Bond traders are ramping up bets that the Federal Reserve will cut interest rates by half a percentage point in September instead of the standard quarter-point increment. That’s evident in the federal funds futures market, where softer-than-anticipated inflation data released Thursday morning unleashed a wave of buying of October contracts, which continued on Friday. Expiring Oct. 31, the contracts already fully price in a quarter-point rate cut at policymakers’ Sept. 18 meeting. Any buying at higher price levels implies an expectation that more people will buy into the idea that the Fed could begin its first easing cycle in years with a supersized move. Positions would also benefit from an increase in expectations for quarter-point rate cuts on both July 31 and Sept. 18, but traders abandoned hope for a July rate cut weeks ago, and no major Wall Street bank is predicting one. Futures open-interest data from CME Group Inc. suggest that Thursday’s buying established new risk. Volume was just short of 260,000 contracts, a record for the October tenor. Buying interest remained high on Friday, with volume nearly 150,000 by 10:30 a.m. New York time. Market-implied expectations for Fed policy were little changed Friday after a report on producer prices had scant impact compared with Thursday’s report on consumer prices. Swap contracts, whose settlement value is determined by the Fed’s policy decisions, fully priced in a quarter-point rate cut in September and a combined 60 basis points of easing by year-end — implying two quarter-point cuts and 40% odds of a third.

Impactful International News

The European Central Bank shouldn’t be overly worried about stubborn services inflation and still-robust wage growth, Governing Council member Fabio Panetta said. “Concerns are not unwarranted, but they need to be put into perspective, as services prices tend to move differently from those of goods,” the Bank of Italy governor said Tuesday. Speaking at the annual meeting of the country’s banking association in Rome, Panetta reiterated that recent data and the outlook allow for a further gradual lowering of borrowing costs. While euro-zone inflation moderated a touch in June to 2.5%, the gauge for services held steady at 4.1%. Such price pressures are making some ECB officials wary about promising more rate cuts following their initial reduction last month. President Christine Lagarde said last week that annual price growth for services doesn’t have to hit 2% since its elevated readings can be offset by other components. Greece’s Yannis Stournaras told Bloomberg that the ECB “shouldn’t over- interpret” these figures. Referring to still-high wage increases, Panetta said that “careful analysis of the data can mitigate fears” — echoing similar remarks he made in a speech at the end of June. The governor, one of the more dovish ECB policymakers, said that “past key rate hikes are still squeezing demand, production and inflation, and will continue to do so in the coming months.” According to central bank estimates, the impact of monetary restriction on prices will be even greater in 2024 than in 2023, he added. “The fall in inflation has made it possible to start easing monetary conditions,” Panetta said. “The reduction in key interest rates will continue at a gradual pace, accompanying the return of inflation to the target, if macroeconomic developments remain in line with the ECB Governing Council’s expectations.” Speaking at the same event in Rome, Italian Finance Minister Giancarlo Giorgetti urged the central bank to speed up any easing plans. “It would be good if the pace of interest rate moves began to accelerate soon, gradually, yes, but decisively,” he said. “A further reduction in demand could be unsustainable, and in any case difficult to bear for economies like Italy’s.”

As always, stay tuned!

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