U.S. consumer price data shows a slowdown in inflation, sparking a rally in stocks and bonds. However, traders remain cautious due to uncertainties surrounding the Fed's future actions and the new administration's policies.
A positive U.S. inflation reading sparked a relief rally in stocks and bonds on Wednesday. Despite the encouraging news, traders and investors remain cautious about the future trajectory of inflation. Uncertainty about the Federal Reserve 's stance on interest rates and the incoming president's policies on trade and taxes continue to weigh on market sentiment.
While the overall consumer price index for December increased at a faster-than-expected rate, the core CPI, which excludes volatile food and energy prices, showed a more modest rise of 0.2%, easing from a 0.3% increase for four consecutive months. This moderation in core inflation led to a significant drop in yields on the benchmark 10-year Treasury bond, which fell back to 4.66%.Market participants acknowledged the positive implications of the CPI data but stressed the need for continued vigilance. The Fed's recent tempering of its rate cut projections and its anticipation of firmer inflation in 2025 had already contributed to a rise in yields in recent weeks. The potential impact of Trump's policies on inflation remains a significant concern. Fed officials highlighted the heightened uncertainty surrounding the economy in the coming months, awaiting insights into the incoming administration's policies.They acknowledged the easing trend in inflation but cautioned that progress might be gradual and uneven, particularly given the uncertainty surrounding fiscal policy changes. For instance, changes to tariffs and trade regimes could potentially lead to a temporary increase in core goods inflation. Market volatility is anticipated to persist as investors closely monitor incoming data and policy developments. Analysts predict daily fluctuations of 10 to 15 basis points in the 10-year Treasury yield could become the norm.Despite the positive CPI data, traders of interest-rate futures still anticipate the Fed waiting until June for its next rate cut. However, the market now assigns an almost equal probability to a second rate cut by the end of the year, compared to prior expectations of only a single cut in 2025. While the CPI data strengthens arguments for further rate cuts, analysts believe the Fed has the flexibility to adopt a patient approach
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