USMC - November CPI Report Preview: How Markets Might React

2023-12-10 09:00:00 ET

Summary

• Stock markets already rebounded on expectations of a pause in rate hikes and even potential rate cuts by the Federal Reserve, based on low inflation.
• The upcoming CPI report may show zero inflation or even deflation, influenced by global energy prices and supply glut.
• Investors should track commodity prices such as energy and agricultural commodities, to estimate the upcoming CPI data.

Bears might overlook the complacent bulls when the U.S. Bureau of Labor Statistics posts the consumer price index report for November. In the previous report , stock markets bounced higher on expectations the Federal Reserve would not only pause rate hikes but also cut them sooner. The S&P 500 ( SPY ) bottomed at around 4,100 between Oct. 27 and 30, 2023. Last week, it closed at 4,604.37. After extending its rally to six straight weeks , it has the momentum to re-visit the late 2021 highs of around 4,800.

The CPI report on Tuesday at 8:30 a.m. coincides with the Federal Reserve policy meeting on that day through Wednesday. Should investors expect a second straight headline inflation rate of zero? What might cause an unexpected jump in monthly inflation? Might the U.S. report deflation, like China reported last Friday after the market closed? China’s CPI deflation of -0.5% is a special case. Global energy prices, weak winter travel, and a supply glut are pressuring prices.

As discussed below, China and the U.S. have energy pricing in common in their report.

Zero Inflation

Last November’s 2022 CPI report would imply another sharp drop in inflation. Although it rose by 0.2%, notice that November – December 2022 inflation falling :

Investors may consider monthly changes in commodity prices to estimate the upcoming CPI date. In the energy sector, gasoline, oil, and natural gas are sharply lower in the last month. From the commodities shown data below , natural gas ( UNG ) is down nearly by one-quarter.

Record-breaking U.S. crude production of 13.2 million bbl/day in September, undermining the supply constraints OPEC+ imposed on its member nations. The International Energy Agency expects the U.S. expansion in global oil supply to increase by 850,000 bbl/day. The US Oil Fund ETF ( USO ) is well off the over $80 peak reached in September.

Inflation watchers should track Nymex crude ( CL1:COM ), last trading at $71.23, and Brent Futures ( CO1:COM ) at $75.99. Its rebound would re-introduce energy inflation to future CPI reports. Until then, Antero Resources ( AR ), down 9.71% last week, Mesa Royalty Trust ( MTR ), which yields 10.55%, and Baytex Energy ( BTE ), down 11.76% in the week, are the energy stocks to consider.

Seeking Alpha Premium does cover MTR stock but assigned grades on BTE and AR stock. Energy investors may take advantage of the negative momentum and lower stock price.

Among agricultural commodities, wheat and corn prices are up, while soybeans and sugar prices fell.

Wheat futures ( WEAT ) fell last Friday for their first loss in nine sessions . It benefited from recent Chinese export purchases.

For exposure to the agriculture sector, readers may watch Caterpillar (CAT), Cummins ( CMI ), and Deere ( DE ).

Inflation watchers have a less reliable correlation between higher prices to the rise in industrial commodity prices. Global economic activity causes price volatility in copper and steel. More importantly, economists have optimistic expectations for China, the sleeping tiger, to awake from its real estate slump.

China too successfully tightened the real estate market in August 2020 with the three red lines . After easing that policy starting in January 2023, the government failed to slow the decline in home prices. Bankrupt real estate firm China Evergrande ( EGRNQ ) succeeded in postponing the court hearing for a liquidation petition to January 29, 2024.

Investors may instead observe the strength of U.S. homebuilders. Lennar ( LEN ) is up 51.75% YTD. It scores an A on both momentum and EPS revisions. Analysts raised their forecast on Lennar amid the Federal Reserve’s rate hiking cycle.

Zillow Group ( Z ) is also trading higher, up 37.74 YTD. On its Q3/2023 conference call , the company outlined its growth strategy around a housing Super App. This is a technology platform that makes it easier for people to move.

Real estate tech investors may consider Opendoor Technologies ( OPEN ), too. The company expanded its partnership channels with homebuilders, agents, and online real estate platforms . By increasing its seller reach more efficiently, the firm may reverse its steep revenue decline of -71% to $980 million and quarterly losses of $0.16 a share.

Below: Redfin ( RDFN ) and Opendoor are both up this year.

In the upcoming CPI report, expect shelter inflation to rise slightly month-over-month but up higher year-over-year. In the October CPI report, the shelter index increased by 0.3%.

Mortgage Rates Declined

Regardless of the headline CPI figure, rising home prices would give the Fed a strong case to keep interest rates high. Thanks to U.S. Treasury bond yields falling since October, mortgage rates are well off their highs. Bankrate.com reported last week that the lowest 30-year fixed rate fell to 7.42%. This is at levels not seen since August.

Homebuyers will lock into lower rates, increasing home prices and shelter inflation as a result. Homeowners would refinance at lower mortgage rates. This would help them increase their disposable income. The higher demand for goods would feed into future inflation rates.

Disinflation Scenario

The fall in nearly all commodity basket items would suggest a disinflation scenario in November’s CPI report, year-to-date period, and the year. The higher agriculture prices in the last year are the exception. Even if the monthly drop in the commodity basket takes time to reach the consumer, markets will anticipate lower CPI in future reports.

The caveat is that companies may take advantage of consumers by not passing the lower input costs. Food suppliers could easily sell smaller units at the same price (“shrinkflation”) or even raise prices. Investors would sell their shares if management fails to report positive profit margins

The food stocks to watch after the CPI report are Kellanova ( K ) and General Mills (GIS), both rated hold. Hormel Foods ( HRL ) has a quant sell rating.

Pepsi ( PEP ) and Coca-Cola ( KO ) have strong buy ratings but are down in the last year. Procter & Gamble ( PG ), which recently wrote down $2.5 billion in charges in its Gillette investment way back in 2005, is the only diversified consumer goods firm that is up this year.

Consumers continue to experience high food prices at the supermarket and restaurants. Since the core PCE inflation excluded rising food and falling energy prices, the Fed may look more closely at the upcoming CPI report instead of the core CPE data.

Your Takeaway

The market already traded higher ahead of the CPI report. Few expect any significant change in inflation. That leaves the market paying close attention to the Fed Chair Powell’s post-meeting commentary hawkish tone.

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