US CPI Data Loom Big After Bumpy Start To August

By Michael Msika, Bloomberg markets live reporter and commentator

After being stuck in a relatively tight range for four months, the European stock market is looking for a catalyst — confirmation that peak rates are in sight. Today’s US inflation data could be crucial.

The Stoxx 600 has had a poor start to the month, and is trading around where it was at the start of April. Still, a not-too-terrible earnings season means equities have held onto this year’s gains, while investor focus turns back to the macro picture.

Today’s CPI print is coming after a spike in real yields and a rise in volatility caused in part by Fitch Ratings’ downgrade of US government debt. The equity reaction was fairly contained, as investors were quick to buy the dip, but an inflation surprise may put them back on edge.

“When real yields spike everything sells off,” say HSBC strategists including Duncan Toms and Max Kettner. “We fear the risk of a return to this kind of market environment later on in the year. But not yet, and only if we see an acceleration and increasing stickiness in the next few US CPI prints.”

The strategists say sentiment and positioning remain “a little too bullish” at the moment but they don’t expect a pullback until later this year. In the meantime, they remain “pro-risk” in their asset allocation.

Generali Asset Management strategist Michele Morganti, meanwhile, is cautious on equities as valuations are unattractive compared with real yields or credit spreads. “US macro resiliency together with declining headline inflation is fueling a sentiment of Goldilocks scenario,” he says.

He notes that monetary policy typically acts with a lag, and expects the economy to start to see the negative effect from rate hikes in the next few quarters.

At the moment, markets aren’t showing much sign of stress, with a neutral momentum trend pretty much across the board on the one hand, but a broad weakening of the MACD momentum on the other hand, hinting at a lack of conviction.

On the volatility side, it looks like investors are in a wait and see mode, with vol spreads staying in a calm range despite a recent uptick.

The market rally “broadening out can continue as a US recession keeps being pushed back,” say Barclays strategists including Matthew Joyce, referring to recent market moves being driven by a relatively small number of stocks.

Still, “it is unlikely to be a smooth ride given fairly bullish positioning, diverging regional growth profiles and increasing worries about fiscal largess. We think a barbell factor exposure makes sense, but the prospects for higher-for-longer rates warrants an increased value tilt,” they say.