Markets Wrap Up as Traders Debate the Impact of CPI Data

It was a positive day for Wall Street equity indexes as investors placed bets ahead of the release of US consumer price data scheduled for Tuesday that could confirm that the inflation battle hasn't ended, crushing hopes of a rate pivot from the Federal Reserve.

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Following its first weekly loss of 2023, the S&P 500 contracts rose slightly while the tech-heavy Nasdaq 100 increased by 0.3% after the index posted its first weekly loss since January of this year.

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There was a positive sentiment among European stocks on the strength of resilient economic growth. The Stoxx 600 index was boosted by construction, industrial goods, and consumer stocks while energy and real estate underperformed.

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There was a selloff in US government debt on Friday, which made the yield on two-year Treasury notes rose by seven basis points to 4.55%, following a selloff in government debt on Thursday. The dollar strength gauge steadied after it had risen earlier in the day.

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Traders are reevaluating how high US interest rates will rise this year, keeping in mind that inflation data and jobs data are likely to still be hot later this week, as well. There is speculation that the Fed rate will peak at 5.2% in July, up from less than 5% a month ago, which is fueling bets that it will be higher. 

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In a recent article, Ryan Grabinski, an investment strategist at Strategas, wrote that investors are trying to look through a recession that hasn't yet taken place. “Over the past 12 months, the Federal Reserve has tightened a substantial amount and, traditionally, when the Fed tightens, it acts with a lag on the economy. It is our view that the full effects of those policies have yet to be felt, and for that reason, we are maintaining a more defensive stance as a result.”

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After a drumbeat of commentary last week, Philadelphia Fed President Patrick Harker has become the latest central banker to reveal that he expects interest rates to move above 5% in the near future. Neel Kashkari of the Minneapolis Fed has predicted that the level will reach 5.4% by early next year.

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A Morgan Stanley strategist has recently told investors that the market is ripe for a selloff after prematurely pricing in a pause in the Federal Reserve raising interest rates.

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“As a result of piquing short-term interest rates and inflation, equity markets and credit markets have priced in a soft landing, however, in our opinion, recent actions have been spurred by a surge in US dollar liquidity, weak positioning, and short covering, resulting in another bear market rally,” said Lisa Shalett, Morgan Stanley Wealth Management's chief investment officer. “It should also be noted, however, that the rosy view does not appear to be supported by other capital markets, with the economic data reflecting complex crosscurrents from the extraordinary COVID reopening."

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Despite that, Alexandra Wilson-Elizondo, who is head of multi-asset retail investing at Goldman Sachs Asset Management, believes the market rally could continue into next year if it continues to gain momentum.

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“We have always believed that the handover from goods disinflation to services disinflation is going to take time and that the Fed would have to stay in the restrictive territory for that to happen,” she said in an interview over the phone. “Having maintained a cautious position in our portfolios, we have looked to real fundamental catalysts for those relative value trades, such as the reopening of China, to help give us some direction.” 

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In the wake of news reports that Kazuo Ueda will be tapped as the next governor of the Bank of Japan, the yen weakened past 132 per dollar after whipsawing Friday following news reports that Kazuo Ueda would be named as his successor. Investors initially interpreted the decision as being a potentially hawkish one. The gains were trimmed after Ueda spoke to reporters and said that the BOJ's stimulus should remain in place in the short term. On Tuesday, the government of Japan is set to announce the name of the new governor of the Bank of Japan in an official announcement.

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A number of traders are also keeping a keen eye on geopolitical developments following the Pentagon shooting down an unidentified object that it tracked over Michigan, according to US officials familiar with the matter. As far as the United States or Canada is concerned, this is the fourth time in eight days that a balloon or high-flying craft has been shot down over the country.

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Other oil prices fell as traders took into account the looming reduction in Russian supply with the return of supplies from other parts of the world as well. There was a decline in gold prices.