The Overnight Report: More Fed Rate Cut Comfort

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Good morning.

Hot on the heels of weaker than expected US PPI data yesterday, which gave markets and analysts encouragement that upstream price pressures were easing, overnight July CPI inflation data confirmed the disinflationary trend continues.

In layman’s terms: the data should keep the Fed on track to cut rates in September.

At 2.9% y/y, the headline CPI inflation rate fell below 3% for the first time since early 2021. The core measure, at 3.2% y/y, is at its lowest level since early 2021.

More on the US CPI further below.

The S&P 500 gained 0.4%, the Dow gained 0.6%, the Nasdaq Composite edged up 0.03%, the Euro Stoxx 50 and the FTSE 100 closed 0.7% and 0.6% higher respectively.

The yield on the US 10y bond was little changed at 3.84%. WTI oil futures fell -1.6% to USD77.1/bbl. Gold weakened -1.2% to USD2,448.0/oz. The USD softened too.

SPI futures locally are signalling a positive opening for the local market today. US share prices for BHP Group ((BHP)) and Rio Tinto ((RIO)) are not as bullish though. In New York, BHP shares lost -2.7% and Rio -2.1%.

See also iron ore further below.

The inflation picture is not quite the same over in the UK where CPI data out followed a better-than-expected June labour market report, which showed unemployment fell -0.2pt to 4.2%.

The UK report also showed regular wage growth slowed to 5.4% y/y (5.7% prior). The BoE kicked off its easing cycle with a -25bp cut earlier in the month.

In-house forecasts at ANZ Bank see the BoE cutting rates by another -150bp in the cycle. As the UK numbers are still a bit too high for comfort, the BoE will be careful to not rush rate cuts, ANZ Bank economists comment.

Iron ore futures extended recent losses as the world’s biggest steel producer, China Baowu Steel Group, warned China’s steel industry is facing a worse downturn than in 2008 and 2015.

Baowu expects the downturn will likely be longer and more difficult to endure than expected. Steel prices have already fallen more than -15% this year.

The base metals sector ended the session higher as the prospect of rate cuts rose. Signs of resilience in the US labour market eased concerns about a global recession that have been hanging over the industrial commodities markets.

Sentiment was further boosted after US inflation cooled for the fourth consecutive month.

Expectations are now high for a rate cut by the Fed. Traders are also watching strike negotiations at a copper mine in Chile, which produces about 5% of the world’s mined copper. This helped take the focus off subdued demand in China.

Crude oil erased this week’s gains after US inventories unexpectedly rose. The Energy Information Administration’s weekly inventory report showed stockpiles of crude oil rose 1.36mbbl last week, snapping a six-week streak of declines.

This was against the API’s estimate of a -5.2mbbl decline. Even so, gasoline and distillate inventories fell -2,894kbbl and -1,673kbbl respectively. The drawdown in gasoline stockpiles helped push implied demand back above 9mb/d. Traders are on edge, as geopolitical tensions remain high.

On the calendar today:

-Australia July unemployment rate

-Aspen Group ((APZ)) earnings report

-Arena REIT ((ARF)) earnings report

-Centuria Office REIT ((COF)) earnings report

-Cochlear ((COH)) earnings report

-Goodman Group ((GMG)) earnings report

-Magellan Financial ((MFG)) earnings report

-NRW Holdings ((NWH)) earnings report

-Origin Energy ((ORG)) earnings report

-Japan 2Q GDP

-UK 2Q GDP

-US July retail sales

All eyes remain on the local reporting season: FNArena’s Monitor https://fnarena.com/index.php/reporting_season/

Corporate news in Australia:

-AGL Energy ((AGL)) is acquiring Firm Power, a 6GW battery energy storage system company

-IFM Investors has reportedly pulled out of the bidding contest for Healius’ Lumus Imaging business, leaving three bidders remaining

-Sims ((SGM)) is exploring a break-up, with shareholders favouring the sale of its North American unit

CIBC on the latest CPI reading in the US:

“Today’s July CPI report showed price pressures continuing to cool. Core CPI prices rose 0.2% m/m in July, in line with consensus expectations, and the third straight reading consistent with underlying inflation around the Fed’s target.

“Three-month annualized core CPI sits at 1.6% as of July, down from the 4% range at the start of the year. Headline inflation also came in at 0.2% m/m in July, matching forecasters predictions. In year-over-year terms, headline inflation was 2.9% and core was 3.2%, both down one tick from the month prior.

“Core goods prices declined yet again, as the used car market continues to rebalance. Service prices strengthened a bit relative to the prior month as shelter inflation rebounded, particularly rents. Monthly shelter prices can been noisy but we expect a firmer downward trend to emerge eventually, making the last mile smoother.

“But overall the Fed will walk away from today’s release with more confidence that underlying inflation is headed in the right direction. Of course it’s no longer just about inflation. There are reasonable worries about the labor market starting to crack, which will have them move a bit faster than they signaled in the June SEP. We expect three consecutive quarter point rate cuts for the remainder of the year. 

“As of writing, the market continues to price in large moves with about 100 basis points of easing priced until December. September still has an outsized cut priced in but is headed towards a normal quarter point cut. Markets are more focused on the risk of a recession and tomorrow’s retail sales report will have a greater influence on attitudes about the Fed than today’s inflation report.

“The most interesting detail in today’s data was the pick up in shelter inflation. Shelter prices rose to 0.4% in July, up from the 0.2% m/m in June, which makes the dip last month seem like a blip. The main cause of the pick up was a surge in the rental component, which was up 0.5% m/m compared to 0.3% the month prior, with the July reading the highest rate seen since May of last year.

“In contrast, Owner’s Equivalent Rent (OER) rebounded a bit in the month but still clearly shows a downward path. It came in at 0.4%, up from 0.3% but below the pace seen most of the past year.

“We view the strength in rents as noise because all other rental measures are increasingly pointing in the opposite direction, suggesting rental inflation in the CPI will eventually come down, and that could be quite sharp.

“For example, the BLS and Cleveland Fed’s All Tenant’s Regressed Index has shown significantly softening and Zillow’s Observed Rent Index has cooled even further since the start of the year.

“We don’t expect the Fed to lose much sleep over the strong rental print today, being encouraged by the downward trend in OER as a more enduring signal of where shelter costs are headed.

“At some point once the dust has settled, given everything we have seen on this component, we hope the BLS will sit down and ask themselves whether this is truly the best way to shelter prices in the economy.

“Non-housing services, which matters more for PCE inflation, was rebounded to a still cool pace of 0.2% after two consecutive flat readings. Medical services contracted in the month by 0.3% in the month while transportation services rebounded to 0.4%. Under the hood of transportation, car insurance rates continued to climb but were offset partly by a further dip in airfares. That is the fifth consecutive decline for airfares, and we may start to see some rising pricing boost non-housing services at some point this year given the sharp deflation in this category.

“Core goods contracted by 0.3% in the month, largely because used car prices fell again (-2.3%). A rebalancing of the auto sector is likely going to continue to put downward pressure on goods as auction prices for used cars continue to edge down. Stripping out used cars, other core goods prices declined by 0.1%. Supply in the global goods market remains robust and the US consumer demand for durables looks like it has come down a fear gears after the spending spree in 2023.

“Overall, today’s report is a further sign that the Fed can now see victory on its price stability mandate. The broader balance of supply and demand is keeping price pressures in check and we expect another 0.2% m/m core PCE reading for July.

“With shelter inflation likely to come down further and goods deflation unlikely to continue over the course of the next year, the ingredients of stable inflation around target are in place, barring a sharp slowdown in activity.

“The Fed’s focus is now on the latter and we expect steady policy easing, and a stronger signal of more to come, to help calm nerves.”

The Australian share market over the past thirty days

For more detail go to FNArena’s Australian Broker Call Report, which is updated each morning, Mon-Fri.

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