April 10, 2023
The major catalyst this week is Wednesday’s CPI print, which should provide more clarity for the Fed’s expected near-term policy path. In the past, the Fed has paused rate hike cycles when the real Fed funds rate turns positive. Declines in food and fuel prices during the month should result in headline CPI declining to +5.2% from +6% last month. At a 5% nominal Fed funds rate, this kind of number would come very close to triggering a pause. Forward-looking indicators like the ISM manufacturing new orders-to-inventory ratio point to headline CPI falling further in the months ahead. We can map out a path for headline CPI to fall below 3% later this year. Unfortunately, the Fed will be using core CPI to determine its policy path and here we expect an increase in the YoY number to +5.6% from +5.5% in February. This kind of outcome would likely result in a higher terminal rate, wider 5/10 curve inversion and lower stock prices.
SPX: The fundamental backdrop for the S&P 500 remains challenging with a rising cost of capital and expected collapse in bank lending. Valuations aren’t necessarily compelling either at ~17x consensus forward-year earnings estimates of $241. That estimate will likely decline as we get into Q1 earnings season. The technical picture looks equally challenging as the SPX moves into strong resistance levels below ~4200. The problem with our tactically bearish outlook is that we’re not alone as light equity positioning, record sidelined cash and bearish sentiment keep risk skewed to the upside. A dovish core CPI print below 5.5% would be the most likely near-term catalyst for a break above ~4200, while something north of +5.7% would result in resumed downside to ~3900.