Stocks Jump After New Inflation Report Spurs Hope for Fed Rate Cuts

Federal Reserve officials held interest rates steady on Wednesday, but the chances of one or more rate cuts in 2024 are very much alive after new data indicated inflation is cooling.

Stocks jumped in reaction to the latest consumer price index (CPI) report, which showed a lower-than-expected annual inflation rate of 3.3% in May. Monthly inflation was flat for the first time since July 2022.

The S&P 500 and the tech-heavy Nasdaq indexes reached new record highs on Wednesday, before closing the day up 0.9% and 1.5%, respectively. Investors have been eager for a CPI print like this that could motivate the Fed to think more seriously about a rate cut.

“Following a string of hot inflation reports to start the year, a rate cut in 2024 remained possible only if it were followed by at least as many months of offsetting, cooling data. April's and May’s CPI reports have been consistent with that hope,” Matt Colyar, a Moody’s Analytics economist, said in a note predicting a rate cut in September (and another in December).

In a statement, the Fed mentioned "modest" progress toward its target of 2% inflation, but it's still unclear how far out a rate cut might be. New "dot plot" predictions released Wednesday show that eight Fed leaders expect two cuts in 2024, while seven expect one cut and four expect no cuts.

The Federal Reserve began hiking rates in 2022 in order to cool the economy and (hopefully) rein in inflation. As inflation decreases, it's expected that the Fed will slash rates, which will lower borrowing costs, thereby stimulating the economy (and the stock market). But the timeline for lowering rates is uncertain.

The officials who don't expect cutting are likely concerned about how sticky inflation has been this year, and they're also seeing evidence of a strong labor market. (Friday’s jobs report showed the economy added 272,000 jobs, which smashed expectations.)

May CPI comes in lower, boosting the odds of rate cuts

Lower gas and energy prices helped inflation stay flat. Gas prices “entered the spring elevated due to headlines about the war in the Middle East, and then dipped in May as demand came in weaker than expected,” Bill Adams, chief economist for Comerica Bank, said in a note.

There was good news outside of energy, too: Colyar notes that core CPI was softer than expected, rising 0.2% over a month. This index excludes food and energy, which are volatile items that the Fed doesn't pay as much attention to.

Used vehicle prices are down 9.3% over the past year, and new car prices are down by 0.8% year-over-year after falling 0.5% in May. The apparel index has only increased 0.8% in a year.

Car insurance has been one of the hottest inflation items, with costs up more than 20% compared to May 2023. In just the past month, however, prices declined 0.1%, which could be a sign of that price growth is finally moderating.

“The only thing missing from today's [CPI] report for the Fed was a further moderation in rent and owners' equivalent rent, which were little changed on the month,” Bank of America analysts said in a note.

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