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U.S. Inflation Accelerates to 3.4% in December: Impact on S&P 500 and Fed Policy Outlook


Headline U.S. inflation accelerated in December, while an annual underlying reading slowed marginally, as Federal Reserve officials search for signs of easing price gains before rolling out possible interest rate cuts this year.

The seasonally-adjusted year-on-year consumer price index (CPI) in the world’s largest economy sped up to 3.4% last month, up from 3.1% in November, according to data from the Bureau of Labor Statistics on Thursday. Month-on-month, the pace increased to 0.3%, driven by increased shelter and energy costs.

S&P 500 Market Outlook

With the hotter-than-expected CPI reading pointing to persistent inflation, there could be downward pressure on equity valuations in the near-term.

The S&P 500 (tracked by the SPY ETF) is currently trading around the 477 level, which marks a support/resistance zone it has bounced between several times over the past year.

Given this technical backdrop along with lingering inflation headwinds, we predict the S&P 500 market will trend bearish over the next couple trading sessions. The risks of a break below support likely outweigh the potential for a breakout above resistance.

However, any substantial sell-offs related to the CPI data may present buying opportunities for long-term investors. Upside could return if signs of disinflation strengthen or the Fed strikes a decidedly dovish tone. Still, the path forward remains murky.

For traders, approaching new positions with caution is warranted. Consider hedging equity exposure with defensive stocks or downside protection. Market volatility remains high while navigating mixed data and policy uncertainty.

Analysis of Key Data Points

Headline CPI

The 3.4% headline CPI reading for December came in above economist estimates of 3.2%. This indicates inflationary pressures are continuing to persist in the economy. Specific categories seeing price increases include:

  • Shelter costs: Rents and housing prices remain elevated due to high demand and low supply in the housing market. This makes up a large weighting in CPI.
  • Energy costs: Gas and electricity prices ticked up likely due to seasonal winter demand and geopolitical factors impacting oil supplies.

Core CPI

The core CPI, which removes food and energy, dipped slightly to 3.9% annually from the 4% pace in November. However, it still indicates sticky inflation excluding volatile categories. The 0.3% monthly gain matched November’s rise.

Cost increases were seen in categories like:

  • Vehicles: Used car and truck prices are still substantially above pre-pandemic levels due to inventory constraints.
  • Medical care services: Rising health care utilization and labor costs are filtering through to patients.
  • Rent and owners’ equivalent rent: Housing inflation persists due to imbalance of housing demand and supply.

Initial Jobless Claims

First-time unemployment claims only edged down slightly, remaining under the key threshold of 300,000 that is associated with a tight labor market. The four-week moving average of claims, which smooths out weekly volatility, was also little changed.

This indicates employers are holding onto workers despite economic uncertainty. Solid labor demand could enable further wage growth that perpetuates high inflation.

Implications for Monetary Policy

The latest CPI data presents a mixed picture for Fed policymakers aiming to cool down inflation toward their 2% target without severely impacting the economy.

On one hand, sticky shelter, vehicle and medical care inflation points to pricing pressure persistence even as goods disinflation emerges. This could lead the Fed to maintain an aggressive tightening stance.

However, moderation in categories like airfares and commodities, plus the slight easing in core inflation, suggests the supply-demand imbalance may slowly be resolving. This could grant the Fed leeway to pause rate hikes soon before assessing if further tightening is warranted.

Overall the report likely did not drastically shift policymakers’ views, though upside headline surprise raises the risk of overtightening if recent inflation relief stalls. The path forward remains data dependent.

Market Reaction

Major stock indexes opened higher following the CPI report, as the market seems to be looking past the hotter-than-expected inflation reading to focus on the dovish pivot narrative. However, Treasury yields declined slightly, reflecting lower expectations for the terminal fed funds rate.

Going forward, volatility could remain elevated as investors reassess rate cut timing while weighing persistent inflation headwinds against a weakening economic outlook. Those maintaining equity exposure may wish to hedge risks via defensive sectors and inflation-protected bonds.




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