What’s next for the markets as CPI surges?

So, this week’s eagerly-anticipated US inflation report showed consumer prices rose by a much larger margin than had been expected and the markets went into a bit of a rollercoaster ride as investors were finding it difficult to decide whether to lean on the Fed’s “transitory” side of the argument or the more hawkish calls from a growing number of economists and analysts.
 
How big a surprise was the CPI report?
 
Quite a bit, actually – even the Fed’s Clarida was taken by surprise. Here are some of the key highlights:
 

 
Will the Fed still think high inflation will be transitory if we get a few more big numbers like today?
 
Well, FOMC member Clarida certainly thinks that way as he responded to today’s CPI print, saying that inflation is likely to rise somewhat further before moderating later this year. BUT he did say he was surprised by the inflation jump, which is interesting to note as it is a subtle hint that he and some of his FOMC colleagues may be underestimating rising price pressures. Indeed, Clarida reassured investors that the Fed will act if inflation does not prove to be transitory. Let’s see what the other Fed members will make of today’s CPI print and whether there will be any changes in their tone. Surely, they can’t be too relaxed about inflation as this would undermine investor confidence in the institution and hurt their credibility.   
 
What about the market?
 
Well, the market’s initial reaction was mixed as the dollar rallied before returning to pre-CPI levels, while S&P 500 futures also managed to claw back some of their losses. But after the initial seas-saw, the dollar started to rise again, and index futures started to head lower once more. Bond markets showed the most obvious response as yields jumped and stayed higher in the aftermath of the inflation report. Interestingly, gold was able to quickly recover after an initial dip, suggesting investors are buying gold as a hedge against inflation – something that gold bugs have over the crypto gang, albeit the two assets are worlds apart. That being said, the precious metal also fell from earlier highs as the dollar and yields continued to climb higher. Nasdaq futures underperformed yet again, underscoring investor worries about sky-high valuations at a time when monetary policy might have to be tightened quicker-than-expected to control inflation from spiralling out of control.  
 
Final words
 
Overall, the initial response in the markets were not too significant – although it is early days, and things can change later on as US investors come to play. The somewhat limited response from the market suggests that investors are getting worried, but it is probably too early to worry about the possibility of high inflation expectations to become baked in among public and the Fed being unable or unwilling to act in response. Short-term spikes in prices are what the Fed had already expected and are consistent with supply bottlenecks created by booming economy coming out of a major slump.
 
But if we do see more inflation numbers like today, then surely things will change. Worries over inflation is going to dominate market talk - and price action - in the months ahead as investors start to think about monetary policy tightening and focus less on the economic growth story, which you feel is perhaps already priced in with stocks and commodities surging higher in recent months.



Source: ThinkMarkets and TradingView.com