Markets are preparing for a pivotal inflation report Wednesday that could go a long way toward determining whether the Federal Reserve raises interest rates in September.
Why it matters: Investors are almost perfectly divided over the Fed’s next move, meaning even a small surprise in July’s Consumer Price Index could trigger a significant move in bonds and mortgage rates.
- Economists expect consumer prices to be unchanged in July, with annual inflation slowing to 3.4%. Core prices, which exclude food and energy, are expected to rise 0.2%, while the annual core inflation rate is projected to cool to 2.5%.
Coin flip: The uncertainty surrounding September is reflected in the futures market. Investors currently see a 51.9% chance that the Fed holds rates steady and a 48.1% chance of a quarter-point hike.
- “We view the print as pivotal for September,” TD Securities U.S. rates strategist Molly Brooks told Bloomberg, adding that an upside surprise could have a much larger impact on rate-hike expectations than a cooler-than-expected report.
- Wall Street Journal reporter Nick Timiraos made a similar point, arguing that a cooler report would relieve pressure on Fed Chair Kevin Warsh and the broader policy committee, while another firm inflation reading could force the Fed to back up its inflation concerns with action.
Impact on Mortgage Rates: An as-expected or cooler inflation report would likely reduce expectations for a September rate hike and could provide some relief for mortgage rates. But an upside surprise could quickly push hike expectations, and Treasury yields, higher.
The bottom line: Wednesday’s CPI report may be the most consequential inflation reading in months. A cool number could take a September hike off the table, while another inflation surprise could make higher rates increasingly difficult for the Fed to avoid.