European and global markets took a pause on Wednesday as investors reassessed their “Trump trades” in light of upcoming US consumer price index (CPI) data.
The widespread market rally that followed last week’s US election results has seen the dollar soar and Treasury yields rise significantly. These moves, dubbed “Trump trades” due to anticipated policies from incoming President Donald Trump, have sparked expectations for substantial fiscal spending, tax cuts, and potentially higher tariffs.
However, Wednesday’s CPI report is seen as a crucial indicator that may either confirm or challenge the recent rally’s sustainability. Markets are eyeing an expected 0.3% rise in core inflation, excluding food and energy, which would mark the third consecutive month of firm underlying inflation. The headline CPI is also anticipated to increase by 0.2%, raising the annual inflation rate to 2.6%, up from September’s 2.4%.
As traders await clarity on the inflation outlook, global markets have reflected uncertainty. In Asia, Japan’s Nikkei, South Korea’s Kospi, and Australia’s ASX each fell close to 1%, while Hong Kong’s Hang Seng dropped 0.6%, having shed double that earlier in the session. European markets are also showing signs of hesitation, with STOXX 50 futures pointing to a softer open, and financial firms ABN Amro and Allianz leading a light day for corporate earnings on the continent.
Wall Street is bracing for similar headwinds after a recent pullback interrupted a 5% rally in the S&P 500. Tuesday saw a 0.2% decline in the index as the 10-year Treasury yield spiked by 12 basis points, reaching a near four-month high of 4.43%.
This CPI release has significant implications for the Federal Reserve’s interest rate policy. While a rate cut was considered highly probable for December just a week ago, recent shifts have lowered the odds to around 62%, down from 77% before the election. Markets are now pricing in fewer rate cuts through 2025, expecting the Fed to ultimately bring the federal funds rate down by just 75 basis points to a target range of 3.75%-4% by the end of 2025, rather than the 100 basis points previously anticipated.
Fed Chair Jerome Powell has reassured markets that inflation is likely to settle around the Fed’s 2% target, despite short-term fluctuations. Powell emphasized that the central bank’s policy will remain “patient and careful” rather than reacting quickly to political changes.
“We won’t be guessing at the impact of fiscal policies on inflation,” Powell said last week.
He expressed confidence that economic fundamentals, not market euphoria, will guide the Fed’s decision-making.
Several components within the CPI report will offer insight into inflation trends:
- Housing Costs: As the largest factor in the core CPI, owners’ equivalent rent (OER) is expected to remain steady after a modest deceleration in September. Morgan Stanley analysts believe that OER may show a slight increase in October but are predicting a broader downtrend into 2025.
- Hotel Rates: October’s shelter prices may see a spike, partly attributed to Hurricanes Helene and Milton, which increased demand for hotel stays in affected areas. Barclays economists have flagged an expected rise in lodging costs, citing higher room rates and occupancy in the Southeast US due to storm displacement.
- Used Car Prices: Analysts are closely watching used car prices, which have recently shown upward pressure. Hurricanes may have led to an increase in demand for replacement vehicles, particularly in areas affected by the storms, potentially ending a long streak of deflation in the used car segment.
With inflation expected to remain a persistent theme, markets will be closely watching the Federal Reserve’s commentary over the next few days. Following Wednesday’s CPI, attention shifts to the US producer price index on Thursday, where Fed Chair Powell and other regional Fed presidents will speak on inflation trends. Friday’s retail sales data may further clarify the path forward for the Fed’s rate cuts.
As traders await these pivotal developments, the “Trump trades” rally is pausing to digest a potentially shifting economic landscape. While high inflation could pressure the Fed to slow its easing cycle, Powell’s conviction that inflation is easing might support more gradual rate cuts, balancing market optimism with caution.
Reuters, Bloomberg, and Investor’s Business Daily contributed to this report.
