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U.S. PCE Inflation: Stocks in Trouble as Markets Eye 2025 Fed Rate Cut Odds

By:Ilya Spivak

Stock markets are at risk as all eyes turn to the Fed’s favored PCE measure of U.S. inflation, with traders now betting on how many rate cuts are doable in 2025

  • U.S. stock markets are on pace for the biggest loss in six weeks.
  • Cooling 2025 Fed rate cut expectations seem to be the culprit.
  • Incoming U.S. PCE inflation data may not soothe traders’ nerves.

Wall Street came back from the U.S. Memorial Day holiday in a downbeat mood.

The bellwether S&P 500 stock index as well as its tech-oriented Nasdaq 100 counterpart are on pace for the largest weekly drawdown since mid-April. In parallel, the VIX index of implied stock-option volatility is tracking toward its first expansion in six weeks.

Tightening credit conditions seem like the culprit at play. Treasury bond yields have increased across maturities, though most of the action has appeared at the longer end. That seems to echo a shift in focus from speculation about the path of near-term Federal Reserve monetary policy to what officials might do next year.

Stock markets vs. Fed rate cuts: Looking ahead

Indeed, the priced-in outlook for 2024 implied in fed funds interest rate futures has been little changed for nearly two months, oscillating in a narrow 18-basis-point (bps) range. As it stands, traders are penciling in 27 bps in cuts this year, implying one standard-sized 25 bps reduction and a meager 8% probability of a second one.

Futures-implied 2024-35 fed outlook vs. S&P 500
Source: CME

Meanwhile, the expected policy trajectory for 2025 has been on the move. Traders moved to from pricing in 47bps in cuts as of mid-April to a hefty 84bps in easing by mid-May. That has since reversed course and now stands at 62bps. Tellingly, stocks bounced amid the dovish swing of the teeter-totter, then topped and turned lower through the hawkish one.

The spotlight now turns to U.S. personal consumption expenditure (PCE) inflation data.

The Fed’s favored price growth gauge is expected to show standstill in April. The core measure excluding volatile food and energy prices – the barometer emphasized by policymakers – is seen is seen holding at 2.8% year-on-year, the level it has stubbornly held for the preceding three months.

U.S. PCE inflation data: Reasons to worry?

While analog CPI data showed resuming disinflation–offering some hope for a market-friendly surprise–it is not clear that even such an outturn would bring much cheer to investors. Despite the appearance of a three-year low on core CPI last month, near-term dynamics remain troubling for central bank officials.

U.S. PCE price index Y/Y
Source: BEA

The annualized three-month growth rate of headline and core CPI accelerated in April, suggesting the Fed is probably no closer to confidently cutting rates. What’s more, a model of inflation trends from the Cleveland Fed branch that has been undershooting realized results all year now points to a pickup in both headline and core PCE.

On balance, this warns that the report is unlikely to do much to rebuild the dovish case for monetary policy. That may be a hard pill to swallow for stock markets before a week-long commentary blackout for Fed officials leading up to the much-anticipated June 13 meeting of the rate-setting Federal Open Markets Committee (FOMC).

Ilya Spivak, tastylive head of global macro, has 15 years of experience in trading strategy, and he specializes in identifying thematic moves in currencies, commodities, interest rates and equities. He hosts Macro Money and co-hosts Overtime, Monday-Thursday. @Ilyaspivak

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