To The Moon

The US May CPI data is scheduled for release later today at 8:30 AM ET. While some economists anticipate a potential cut in July, the overall sentiment is that the Fed will remain data-dependent and likely keep rates unchanged at its upcoming June meeting.

In this article, I would like to share what to expect and its potential implications, particularly to the equities and S&P 500.

Key Expectations for May CPI Data

Headline CPI (Year-over-Year): The consensus among economists points to a slight uptick in the annual inflation rate. Forecast: Around 2.5% year-over-year, up from 2.3% in April. Month-over-month: Expected to be around 0.2% (similar to April).

Core CPI (Year-over-Year): This is closely watched by the Federal Reserve as it excludes volatile food and energy prices, providing a clearer picture of underlying inflation trends. Forecast: Expected to rise to around 2.9% year-over-year, up from 2.8% in April. Month-over-month: Expected to be around 0.3%, slightly higher than April's 0.2%.

Factors Influencing Expectations

Tariff Effects: There's significant attention on whether the recently announced tariffs by the Trump administration in early April will start to show up in the May data. While economists expect a small impact in May, larger effects are anticipated in subsequent months, starting in June. Industries like apparel, recreation, and communication might see some tariff-related inflation.

Energy Prices: A sustained decline in energy prices, driven by weaker global demand, is likely to offset some inflationary pressures from other sectors.

Services Inflation: Core CPI remains elevated, despite a gradual deceleration in shelter prices. Services inflation, which tends to be stickier, is a key component to watch.

Goods Prices: Economists expect some acceleration in core goods inflation.

Labor Market: While the labor market is showing signs of slowing, it hasn't deteriorated enough to prompt immediate Fed policy changes. Average weekly earnings have increased, which could contribute to some inflationary pressure.

Why is CPI Data Important?

The Consumer Price Index (CPI) is a critical economic indicator for several reasons:

Inflation Gauge: It is the primary measure of inflation, reflecting changes in the cost of a basket of goods and services consumed by households.

Monetary Policy: Central banks, particularly the US Federal Reserve, closely monitor CPI data to make decisions about monetary policy, specifically interest rates. Higher CPI: If CPI rises significantly above the Fed's 2% target, it typically signals persistent inflationary pressures, which could lead the Fed to maintain higher interest rates or even consider rate hikes to cool down the economy. Lower CPI: A declining CPI, especially if it indicates deflation (a sustained decrease in prices), might prompt the Fed to lower interest rates to stimulate economic activity.

Purchasing Power: CPI impacts the purchasing power of money. When inflation is high, your money buys less.

Market Volatility: The release of CPI data often leads to significant volatility in financial markets, including stocks, bonds, and currency exchange rates, as investors adjust their expectations for interest rates and economic growth.

Cost of Living Adjustments (COLAs): CPI data is used to calculate COLAs for various federal payments, including Social Security benefits.

Potential Market Reactions

If CPI comes in higher than expected: This would signal stronger inflationary pressures, potentially leading to: Increased expectations for the Fed to hold interest rates steady for longer or even consider future hikes. A stronger US dollar as investors are attracted to higher yields. Pressure on stock markets, particularly growth stocks, as higher interest rates increase borrowing costs and reduce future earnings valuations. Higher bond yields.

If CPI comes in lower than expected: This would suggest inflation is cooling more rapidly, potentially leading to: Increased speculation about earlier interest rate cuts by the Fed. A weaker US dollar. A boost to stock markets, as lower interest rates can stimulate economic growth and make borrowing cheaper for companies. Lower bond yields.

If CPI comes in line with expectations: The market reaction might be more muted, as the data would already be priced in. However, the nuances within the report (e.g., core vs. headline, specific categories) will still be closely scrutinized.

If we looked at how the Interest rates and CPI have stacked up against the S&P 500, we might be expecting the S&P 500 to stay sideways if the inflation came in slightly higher or lower as we can see from the chart below.

Sectors Performance Before CPI Report

Energy led the sectors with a 1.8% rise, despite crude oil dropping 0.5% to $64.96/bbl. Consumer discretionary followed with a 1.2% gain, helped by $Tesla Motors(TSLA)$ climbing 5.7% to 326.09.

Technology rose by 0.5%, with chipmakers boosting the $Invesco PHLX Semiconductor ETF(SOXQ)$ by 2.1%. $Intel(INTC)$ surged by 8.0%, driven by optimism around its new technology.

Industrials fell by 0.4% due to defense stocks profit-taking, but transport stocks lifted the Dow Jones Transportation Average by 1.3%. Norfolk Southern (NSC) reported a 0.9% increase, with its carload growth up 5%.

But we need to understand that if the expectations was completely crashed by the actual release, we could see more defensive sectors (e.g. Consumer Defensive) coming back on top after the CPI data.

Current CME FedWatch Tool Show Interest Rate To Remain Unchanged

The CME's highly-watched FedWatch tool showed a decline in odds of an interest rate cut this summer. May Labor Department figures on jobs were slightly higher than expected but down from April. 

This soft jobs data led the Fed watchers to look at the CPI as the measurement of potential Fed action, including a possible quarter-point cut this summer that would serve as the only rate deduction for the year.

But as of time of this writing, we are not looking at any rate cut for June FOMC meeting.

Summary

Given the current consensus, the May CPI report is expected to show a slight acceleration in inflation, which would likely reinforce the Federal Reserve's cautious stance on interest rate cuts.

While some economists anticipate a potential cut in July, the overall sentiment is that the Fed will remain data-dependent and likely keep rates unchanged at its upcoming June meeting. The market will be keenly watching for any surprises that could alter the trajectory of monetary policy.

I would think there might be sector rotation to more defensive sectors if inflation came in stronger, even slightly stronger would move the market.

Appreciate if you could share your thoughts in the comment section whether you think May CPI data would shift the sectors performance as investors realign their strategy.

@TigerStars @Daily_Discussion @Tiger_Earnings @TigerWire appreciate if you could feature this article so that fellow tiger would benefit from my investing and trading thoughts.

Disclaimer: The analysis and result presented does not recommend or suggest any investing in the said stock. This is purely for Analysis.

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