October CPI seen showing inflation up even as some goods prices cool

The market is skeptical going into tomorrow's CPI data, says BMO's Brian Belski

Consumer inflation is likely to have eased slightly in October as goods prices fell, but prices for services and rents are likely to rise further.

According to Dow Jones, economists expect the consumer price index to rise 0.6% in October from September, or 7.9% yoy, versus 0.4% or 8.2% annually in September. Ex-food and energy, core CPI is expected to have risen 0.5%, or 6.5% on an annualized basis. That’s down from September’s 0.6% gain, which translated into annual growth of 6.6%.

The CPI, to be released at 8:30 a.m. Thursday, is a key report for the Federal Reserve, which meets in mid-December and is widely expected to raise its Fed Funds target rate by half a percentage point.

The central bank has indicated that it will reduce the size of its interest rate hikes, but it could take them to higher levels and leave them there to fight inflation. Because of this, the report is being closely scrutinized by investors and could impact financial markets if it turns out either hotter or colder than expected.

Customers buy used cars from a CarMax dealership in Lexington, Kentucky.

Luke Sharret | Bloomberg | Getty Images

“We’re going from red-hot to simmering, and that’s not cool enough for the Fed,” said Diane Swonk, chief economist at KPMG. Swonk said policymakers should be comfortable enough with the report to hike rates by half a point, as has been hinted. The Fed had hiked in increments of 75 basis points. One basis point corresponds to 0.01 percentage points.

Jefferies money market economist Tom Simons said investors appear to be expecting a cooler reading than the consensus forecast.

“It sounds like the consensus is that the number will miss consensus. In general, everyone expects it to be below those projected numbers,” he said. “There are a lot of mixed movements in different price categories.”

Simons expects core CPI to have risen 0.4% and goods prices to have fallen 0.2%, while services are up 0.6%. Services include items such as medical care, rentals, airfare, recreation, education, and auto insurance.

The CPI report is widely expected to show that used car prices are falling but rents and housing continue to rise.

“We should start seeing some of the discounts coming through on housing-related big ticket items like appliances,” Swonk said. She expects inflation on housing-related goods, such as furniture, to continue to fall, and housing costs to fall later.

“It won’t be this month, but by early 2023 we could see more moderation in housing costs,” she said. Housing costs are 40% of core CPI.

Blerina Uruci, chief US economist for T. Rowe Price, said the October report will still look hot, but there should be a slowdown in core inflation.

“Part of that comes from commodity prices because demand is slowing, as we’ve seen with consumer spending recently,” she said. Ultimately, high commodity prices hurt demand. “It’s a small step that increased inflation can, in a way, eat up on its own.”

Uruci said the strong US dollar could also help reduce inflation in imported goods. “The recent strength in the US dollar should be a source of disinflation in the coming months,” she said. “This will play out through the core commodity channel.”

The Bespoke Investment Group notes that economists have consistently underestimated inflation over the past year. The market was mostly down on CPI reporting days, the company said. But the S&P 500 posted a surprisingly strong 2.6% rally last month, despite a hotter-than-expected September CPI.

That has rarely been the case lately. The S&P 500 is down a median 0.44% over the past 12 CPI reporting days, and the S&P is down a median on the eight days that CPI was higher than expected based on both core and headline inflation down 1.23%.