The reaction to the US Q1 GDP data yesterday was an interesting one. But perhaps it offers a hint of what to expect from the reaction when we get to the US PCE price data today. Let’s try and make sense of that and see how markets might reaction to the Fed’s preferred measure of inflation later.
In looking at the impact of economic data now, it is important to identify what exactly they are influencing. And that here is the Fed outlook.
As things stand, traders have priced out any chance of a rate cut in May, June, and July. The odds of a September rate cut are at ~76% currently. But that particular FOMC meeting is still roughly five months out. That is plenty of time for markets to take stock of the US economy and to assess the Fed outlook. And I’d like to stress on the word plenty in that sentence.
If inflation remains as it is, offering a few hints of stickiness, it still fits with the above narrative for the most part. I mean, traders are pricing in roughly 35 bps worth of rate cuts for the year and that sounds about right now. To rule out rate cuts completely would be rather premature in my view.
So, there’s some leeway in letting the inflation numbers to slide through over the next one or two months at least.
However, if we do see the disinflation narrative pick up, that could start to invite some questions on a move in July perhaps. A summer move is unlikely but it’s best not to rule that out completely especially if the data starts to dictate as such. But we’ll see.
Taking all that in consideration, I’d argue that the balance of risks are favoured towards a more dovish Fed now. We’re about as close as we can get to pricing in just one rate cut for the year and that’s a major shake up since the start of 2024 already. Adding to that, the base case is one looking to five months out. And there’s a lot of data to scrutinise between now and then.
It’d be too early to call for no rate cuts this year in the next one or two months. So, if traders do get overly excited and overextend in that direction to any economic data, there’s a good chance of the move being kept in check. And that is arguably what we already saw in trading yesterday.
That’ll be some food for thought ahead of the US PCE price data later today.