US Inflation release didn’t move the dial this time!
Author: Tom McGrath CIO, 8AM Global
Market Overview
Once upon a time, not so long ago, a US inflation print that came in hotter than expected would have spooked the equity markets. Not so now! The US equity market showed remarkable resilience, with investors seemingly brushing aside the release of the September CPI, which climbed by a more-than-expected 0.3% (admittedly, only just above the forecast of 0.2%). This suggests that investors’ minds are perhaps more tuned in to job numbers and earnings. And here we got some good news on Friday with the ‘Big Banks’ opening up Q3 with earnings beats. Last week’s net result was another closing all-time high from the S&P 500. Other markets were pretty dull. Japan managed to bounce back from last week’s falls, and China went the other way, giving up a large chunk of last week’s gains. Oil, gold and currencies were mostly stable, but bonds continued to slide as 10-year yields rose, with the US going decisively over 4%.
US Inflation
In September, underlying US inflation rose more than expected, marking a pause in recent progress toward easing price pressures. The Core Consumer Price Index (CPI), which excludes food and energy costs, went up by 0.3% for the second consecutive month, interrupting a trend of smaller increases. The three-month annualised rate rose to 3.1%, the highest since May. Economists view the core CPI as a more reliable measure of underlying inflation than the overall CPI. This broader measure increased by 0.2% from the previous month, with housing and food making up over 75% of the rise. Goods prices, which had been declining, also saw an increase.
Alongside the strong jobs report we got at the beginning of the month, this higher inflation data will likely fuel debate over whether the Federal Reserve will implement a modest interest rate cut next month or pause after September’s jumbo cut. Market expectations, and mine, are that we will almost certainly see a 0.25% cut, but anything bigger is probably now out of the picture. And a further cut in December is not as nailed on as previously thought and is very dependent on jobs data going forward. That data will require some real investigation as the hurricane season will wreak havoc, not only on the SE coast of the US, but also on employment data.
The equity market reaction was muted, which was positive, but bond yields headed higher than expected. Digging in, you can see some good news in the shelter components, as owners’ equivalent rent posted its smallest m/m gain since June. Since rents are typically sticky, this bodes well for the next couple of months. I guess the main takeaway, particularly after the strong employment data, is that the Fed will proceed more cautiously with rate cuts and that the fickle minds of equity investors now seem to regard inflation data as a bit boring!
So, the bull market seems set to continue for the moment. By the way, the stock market is reaching new heights even as assets in money market mutual funds rose to a record $6.5 trillion in October. That’s quite remarkable. Imagine the meltdown in stock prices if the Fed continues to lower interest rates to a point where savers look to equities for meaningful returns.
UK Growth Picks Up
Finally, there is some good news out of the UK, as GDP grew by 0.2% in August, bringing the economy back to growth after two months of stagnation and setting it up for expansion in the third quarter. Growth was recorded across the services, production, and construction sectors. This is positive news and a relief for the government, which will stop whimpering about the dire state of the economy they inherited. The figures leave the economy on course for growth in the third quarter, albeit more modest than in the first half of the year when Britain outpaced all of its ‘Group of Seven’ peers. All else being equal, the economy will expand in Q3 as well, barring GDP falling in September by 0.3% or more.
Unfortunately, this data reflects a time before business leaders grew increasingly concerned over the doom and gloom messaging about an upcoming ‘painful’ budget on October 30th. Consumer confidence remains low, raising doubts about the economy’s resilience in September and beyond.
We now know who the UK’s new Investment Minister will be, as Keir Starmer has appointed Poppy Gustafsson, former CEO of cybersecurity firm Darktrace, underlining the government’s emphasis on technology as a growth driver. Gustafsson’s role will involve attracting domestic and foreign investment, which is no easy task, but she comes with a great pedigree. Her appointment arrives ahead of an international investment summit today (Monday 14th October), where she will promote the UK’s investment potential. Her influence could be significant, especially as she won’t even be able to tell potential investors what changes are likely in the budget at the end of the month. Crazy timing for a summit!
China
After the moves in monetary policy and fabulous rhetoric two weeks ago, there was a definite anticlimax mood in Chinese stock markets last week. They returned to operation after a ‘Golden Week Holiday’ that we are led to believe showed an upward surge in consumerism. Markets attempted a rally at the beginning of last week before fading dramatically by close on Friday, as all eyes turned to the Ministry of Finance policy briefing on Saturday for clues on any fresh fiscal stimulus.
The briefing again is full of innovative ways to stimulate growth, including further support for its struggling property sector, and it hinted at more government borrowing. However, it failed to name a specific figure. Local governments can use special bonds to buy unsold homes, and more sovereign bonds may be issued to ease local government debt. China’s finance minister also indicated that the central government can increase borrowing and the deficit. Additionally, special sovereign bonds will be issued to boost the capital of major state-owned banks, aiming to encourage lending and stimulate economic growth.
However, the absence of concrete numbers might underwhelm investors when markets open this morning, but I do think that if the rally fades, then we will get more specifics and hard numbers. Maybe even a rare revision to the budget could come in the next few weeks. It isn’t quite time to bank the recent gains, as my hunch is that the recent rally still has legs. Even with the recent sell-off, it is still an impressive move, and there’s potential for further gains.
Europe
The European Central Bank (ECB) appears set to implement a 25 basis point rate cut at its October meeting next week. Recent communication has become more dovish, reflecting September’s inflation falling below the ECB’s 2% target and growing signs of slower economic growth and a weaker job market. The markets expect this rate cut, and even ECB members who previously leaned toward higher rates seem unlikely to oppose it.
However, the ECB is unlikely to commit to further rate cuts for December, sticking instead to the data-dependent approach. Without more substantial signs of slowing growth or updated economic forecasts, the council remains cautious about signalling multiple cuts as there are still two main worries: persistent wage pressures and services inflation. I am hopeful that we could see a gradual growth recovery from the Eurozone, especially with the US running hot and China stimulating. However, this may slow the rate cuts as interest rates near a neutral level by mid-2025.
Q3 Earnings Season
Going into this quarter and after various analyst downgrades, current estimates suggest a growth of 4.1%. But it seems everyone understands that this forecast most likely understates what is expected (analysts play the game of lowering numbers, so there are more positive surprises). FactSet suggests that ‘based on the average improvement in the earnings growth rate during the earnings season, the index will likely report year-over-year growth in earnings above 7% for the third quarter‘.
So far, that seems to be playing out, with a tiny 6% of S&P 500 companies reporting about 70% have beaten estimates. Of the big boys, JPMorgan exceeded analyst predictions, posting notable earnings per share (EPS) of $4.37 on revenue of $43.3 billion, reflecting gains across its investment banking and trading sectors. Wells Fargo also reported solid earnings. It gets much more interesting next week as we get more from the banks, Goldman and Bank of America, but the other industries start to report, and of the index heavyweights, we hear from Netflix and Johnson & Johnson.
I will sign off this Market Matters with some interesting observations from a broker I rate, Mohit Kumar Jeffries, who has just returned from the US…
“The main takeaways from speaking to clients in the US were;
1) Positive on risk sentiment into year-end. Clients see animal spirits taking over post elections, particularly for the US markets if Trump wins.
2) On the election, it is a close call, but almost every client we spoke to said that it is likely that Trump will win.
3) a majority of clients believed that inflation risks could be under-priced for 2025, and the Fed might stop its cutting cycle above neutral.
4) The macro view on Europe was negative, particularly for Germany”.
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