The CPI inflation rate fell faster than expected in November, as did core inflation, which strips out food and energy. The S&P 500 took off in early Tuesday stock market action, but gave up the bulk of its gains as investors weighed what it means for tomorrow's Fed meeting.
The CPI inflation rate eased six-tenths of a percent from 7.7% in October, coming in below Wall Street expectations of 7.3%. The 7.1% annual gain was the lowest in a year. The consumer price index rose 0.1% on the month vs. the 0.3% expected increase.
The core CPI rose 0.2% from October. Economists had expected a 0.4% monthly increase. The annual core inflation rate eased to 6% from 6.3%. The core CPI inflation rate peaked at a 40-year-high 6.6% in September.
The Fed has signaled that it will step down the pace of rate hikes at tomorrow's meeting, with widespread expectations of a half-point rate hike to a range of 4.25% to 4.5%. However, it's unclear how much the November CPI inflation report will affect the rate-hike outlook that the Fed will sketch out in new economic projections and chair Jerome Powell's news conference. It may not make much of a difference, because the Fed has shifted its thinking on inflation.
U.S. Economy, S&P 500 Face Hard Landing — Unless The Federal Reserve Does This
Goods Vs. Services Spending
Inflation in goods prices, excluding food and energy, has decelerated from double-digit increases earlier in the year. That progress continued in November. Core goods prices fell 0.5% on the month. That brought year-over-year inflation to 3.7% from 5.1% in October.
Inflation in nonenergy services prices, which affects 56% of consumer budgets, still hasn't begun to subside, rising 0.4% on the month and 6.8% from a year ago vs. 6.7% in October.
S&P 500 Reaction To CPI Report
The S&P 500 surged close to 3% on Tuesday morning after the CPI report, but settled back to a 0.6% gain in the late afternoon. The Dow Jones was rose 0.3%, or 100 points, after rising as much as 700 points. The Nasdaq held onto a 0.9% gain after vaulting more than 3% in early trade.
The latest S&P 500 rally off mid-October lows got a jolt of energy on Nov. 10, when unexpectedly tame CPI inflation data raised hope that the Fed could wind down rate hikes before they crashed the economy.
That basic story hasn't changed, but Fed chief Powell has tried to rein in the bulls by signaling that interest rates will have to rise further and remain restrictive until wage growth eases in a significant way. That's probably why the S&P 500 had remained range-bound since the November jobs report showed wage growth accelerating to 5.1%.
Through Monday's close, the S&P 500 is up 11.6% from its Oct. 12 low, but still 16.8% off its peak. The Dow Jones Industrial Average has rallied 18.4% from its bear-market low to within 7.6% of its all-time closing high on Jan. 4. The Nasdaq has climbed 8% since hitting bottom on Oct. 14 but is still 30.6% off its record high.
Following the CPI data, the 10-year Treasury yield tumbled 10 basis points to 3.51%.
Following the tamer inflation reading, CME Group's FedWatch page shows a 53% chance that the Fed will downshift to a quarter-point rate hike on Feb. 1.
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CPI Inflation Report Details
Prices for used cars and trucks fell 2.9% on the month and are now 3.3% below year-ago levels. New vehicle prices were unchanged from October, while the annual price increase moderated to 7.2% from 8.4% the prior month.
Energy prices fell 1.6% on the month, while increasing 13.1% from a year ago.
Prices for food climbed 0.5% on the month, as the annual increase slowed to 10.6% from 10.9% in October.
The rent index rose 0.8% on the month and 7.2% from a year ago, its largest increase on record.
Prices for transportation dipped 0.1% on the month, rising 14.2% from a year ago.
Medical services prices fell 0.7% in November, while increasing 4.4% from a year ago.
Fed Has New Key Inflation Rate
While markets were surprised by just how weak the CPI was in November, everyone is expecting inflation to fall pretty rapidly — including the Fed.
Powell gave practically a whole speech on Nov. 30 trying to convince investors — and dovish-leaning Fed members — that they should look through the expected swoon in the inflation rate.
There's one key inflation rate to follow, Powell says. It isn't the CPI, or even the core CPI. He also steered attention away from the Fed's usual focus: the core personal consumption expenditures (PCE) price index.
The key to Fed policy should be core PCE services minus housing. Powell noted that core goods-price inflation is waning and said the same is likely for housing inflation in 2023, given the stalling of market rents. But inflation in nonenergy services, excluding housing, is likely to stay elevated as long as wage growth remains hot.
The composition of the CPI and core CPI strengthens the case for focusing on Powell's new favorite inflation rate. Housing accounts for just over 30% of the CPI and 40% of the core CPI, but it only makes up 15% of the broader PCE basket.
Health care spending in the CPI excludes the bulk of outlays: spending covered by employers and government programs. Further, the outright declines in medical services prices in the CPI reflects stale data on insurer profits. By contrast, PCE health care services inflation is on the rise amid higher labor costs. Also, food consumed at restaurants, which continues to see high inflation, is excluded from the core CPI but is grouped among core PCE services.
Bottom line: Fed risk is definitely not off the table. Don't rule out a continued Santa Claus rally for the S&P 500. But beware that it could end abruptly if the next jobs report in early January shows strong wage gains.
