The S&P 500 surpassed last summer peak level and recovered to the highest levels since April 2022 on hope that… we could see a sufficiently soft inflation data from the US, which could chase the hawkish Federal Reserve (Fed) clouds away and clear the sky for a Fed pause.
The US inflation data is due today, as the Fed begins its two day policy meeting. Expectations are rather soft – which make them harder to beat. The US headline inflation is expected to have eased from 4.9% to 4.1% in May, core inflation – excluding food and energy – is expected to have soften from 5.5% to 5.3%. On a monthly basis, core CPI is expected to have risen at 0.4%, same speed as last month, as price increases in services and rents remain sticky.
One encouraging piece of data, however, is the falling inflation expectations. The latest survey from the New York Fed showed that the one-year inflation expectation further fell to 4.1%, although we saw an uptick in 3-year expectation to 3%.
What’s interesting here is the idea that consumers get used to the idea that, yes, inflation will slow from the actual levels, but we will not return to the 2%-inflation-era anytime soon. Both the US and Europe should accept and live with inflation levels that are closer to 3-4%, than 2% and below as has been the case for the past decade. In fact, trade war with China, war in Ukraine, energy crisis, energy transition, reindustrialization and onshoring are all inflationary factors, and will make the Fed’s job of reaching a 2% inflation rather complicated.
While equity traders seem optimistic about the end of the Fed tightening, bond traders are more skeptical. The US 2-year yield remains on a positive trajectory. The US sovereign bonds outlook will remain negative until a strong hint that the Fed rate hikes are over.
The US dollar is softer, and a sufficiently soft US inflation could push the EURUSD past its 100-DMA, near 1.08.
Regarding the equity rally
There are diverging opinions about what happens next. Some investors think that the Big Tech led equity rally should continue with the rest of the market due to catch up their technology peers. Some others think that the S&P500’s fresh bull market is just an illusion and doesn’t mean that the bear market is over. In this context, Morgan Stanley points at 1940s when the S&P500 rallied around 24% before falling to a new low. I think the truth is certainly somewhere in between. The S&P500 is now approaching overbought conditions, which will bring some investors to take their profit and walk away. Big Tech, which saw the strongest rally this year, is potentially where the profit-taking will be happening.
Cheap sanctioned Oil
Crude oil was hit by another wave of selloff yesterday which sent the barrel of American crude below the $67 level. News that the discounted Russian oil came to Pakistan backed warnings of increased supply from sanctioned countries, which will increase the level of global oil supply with cheaper oil. Expect further downside pressure in oil prices; the next support is seen at around the $65pb.