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US Dollar, S&P 500 Putting Recession Risk at Center Stage: PCE Inflation Preview

By:Ilya Spivak

Markets would have celebrated disinflation as recently as two months ago. Now, price action in US stocks and the Dollar hints that the calculus has changed as recession fears dominate the spotlight.

  • March US PCE inflation data in focus, climb-down to one-year low expected
  • Fed policy speculation seems to have ceded the spotlight to recession fears
  • Stocks may fall as the US Dollar gains if price growth undershoots forecasts

US inflation remains on a declining path

The markets are bracing for a key stage-setting exercise as the March edition of US PCE inflation data – the Fed’s favored price growth measure – gets set to cross the wires. It is expected to show that the headline rate dipped to 4.1 percent, climbing down from 5 percent in the prior month and marking a one-year low.

The case for continued disinflation seems compelling. The 2-year “breakeven rate” – a measure of the inflation path priced into bond markets and revealed by taking difference between nominal and real Treasury yields – has been leading PCE and CPI by about two months. There is a similar relationship with the price-tracking subindex of the service-sector ISM survey. Both measures suggest lower readings ahead.

Fed policy speculation may be giving way to recession fears

Softer data might have cheered markets as recently as a few months ago, when it could credibly stoke hope for a dovish adjustment in Fed rate hike odds. That seems to have stopped working. The priced-in policy path implied in rates futures has barely moved at all since the FOMC gathered for a its last meeting on March 22, just in the wake of the SVB-led banking crisis. Curiously, the standstill has persisted even as measures of credit stress returned to pre-crisis levels.

In the meantime, price action dynamics seem to suggest regime change is afoot. The bellwether S&P 500 stock index has moved lower alongside the Fed Funds rate implied in rates futures for the end of this year. What’s more, the US Dollar has cautiously gained in tandem. This is a stark change from trading patterns persisting since the start of 2022.

That dovish changes in the priced-in policy path now come with weaker shares and a stronger Greenback suggests that traders have moved on from fine-turning their view of the tightening path to focus on recession risk. Viewed through this lens, soft PCE numbers might be seen as a worrying sign of withering economic activity. They could thus lead Wall Street lower while safety-seeking capital heads for the liquidity haven of the US currency.

Ilya Spivak is the Head of Global Macro at tastylive, where he hosts Macro Money every week, Monday-Thursday.

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