Just ahead of Wednesday’s highly anticipated U.S. consumer price index report for July, two Goldman Sachs analysts warn that short-term U.S. inflation “will likely remain too high” and that financial markets are “more vulnerable” to positive surprises. than before.
The reason for this is that, for the past month or so, markets have been preoccupied with a scenario in which Federal Reserve policymakers may eventually revert to easier policy – or forego aggressive rate hikes – assuming the inflation peaked. That sentiment is reflected in nominal and real yields that fell nearly 100 basis points and 85 basis points, respectively, from June to early August, analysts Dominic Wilson and Vickie Chang wrote in a note on Monday. And that’s also demonstrated in Goldman Sach’s U.S. financial conditions index, which has eased 70 basis points from its peak, they said.
During this time, however, measures of the “depth” of inflation generally rose and Goldman Sachs GS,
expects price gains to remain strong over the next few months and likely through the end of the year. Indeed, some of the financial market’s brightest minds on inflation are expecting an annual headline CPI index run of around 8.8%, starting Wednesday, for the next three months. , even after factoring in recent declines in gas and commodity prices.
“Our central view has been that it is too early for the market to trade full
Fed Pivot,” Wilson and Chang wrote. Moreover, “the market has become too worried about an impending recession” and “the better the growth outlook, the more the Fed will have to ensure that financial conditions remain tight”.
“The near-term inflation picture is likely to remain uncomfortably high,” they said. While there should be relative relief in headline inflation and prices for basic goods over the next few months, “prices for basic services are expected to rise further year-over-year and remain firmer on a sequential basis as well, partly due to continued strength in housing inflation.
Wilson and Chang are not alone in their opinion. Lindsey Piegza, chief economist at Stifel Nicolaus & Co., said while Wednesday’s headline CPI annual rate may reflect a “welcome reprieve” from a 9.1% rate in June, the data ” could prove disappointing” and the minimum one-month drop “is unlikely to have a significant impact on the Committee’s latest hawkish rhetoric (Federal Open Market), or plans to move forward with a possible 75 basis points in the third round in September.
The Fed has raised its main interest rate target to a range between 2.25% and 2.5% since March, from 0 to 0.25% earlier this year. Now, fed funds futures traders see a 65.5% chance of a 75 basis point move higher in September and a 34.5% chance of a smaller 50 basis point move. They see a 70.9% chance that the fed funds rate target will hit at least between 3.5% and 3.75% by next March, before the Fed cuts rates later in 2023, according to the CME FedWatch Tool.
On Tuesday, as traders settled into a wait-and-see mode ahead of July’s CPI report, the three major stock indices DJIA,
were weaker in the morning trade. Meanwhile, Treasury yields rose across the board on the government bond selloff, sending the 2-year rate TMUBMUSD02Y,
up to 3.26% and the 10-year rate TMUBMUSD10Y,
up to almost 2.8%.