Market Insights

Higher inflation sank stocks into a bear market early last year. Now slowing inflation may be setting the market up for a return to new highs.

The S&P 500 jumped 1.9 percent yesterday. But perhaps more important, the index broke a falling trendline from the summer. Stocks also closed decisively above last month’s peak, which could further suggest the recent bearish move has come to an end.

First consider the trendline, which began on July 27. That’s when gross domestic product shot past expectations, spurring worries about higher interest rates. Stocks made lower highs on September 1 and 14, bolstering the trendline. (Strong job and retail sales reports marked those tops.)

Next consider the price zone around 4400. The S&P 500 closed there on September 20, the same day the Federal Reserve predicted more hawkish monetary policy. The index gapped lower the following session and peaked in the same area 3-4 weeks later. That made it look like another another lower high.

But both of those resistance points have given way this month as big changes in economic data make investors think the Fed is done hiking rates. (Sentiment has also improved dramatically.)

0% Inflation

The U.S. Bureau of Labor Statistics reported yesterday morning that consumer prices were unchanged between September and October. (They fell 0.04 percent, to be precise.) Aside from July 2022, it was the first drop since the height of coronavirus lockdowns in May 2020. The zero percent reading was also lower than the 0.1 percent increase forecast by economists.

Other numbers surprised the bulls pleasantly. Shelter, the largest category in the price basket, rose 0.3 percent. The rate fell by half from September. Used vehicles got 0.8 percent cheaper and new vehicles dipped 0.1 percent. Those declines pushed core CPI (excluding food and energy) up by 0.2 percent, below the 0.3 percent forecast.

The news was consistent with signs of slower inflation and economic growth earlier in the month. Those included lower unit labor costs, higher unemployment, weak payroll growth and disappointing purchasing managers indexes.

Cooling inflation has reduced worries about interest rates. CME’s FedWatch tool now shows a less than a 3 percent chance of Jerome Powell hiking rates on December 13. (Down from 15 percent before the CPI report.)

Market Reactions

Aside from pushing the S&P 500 above resistance, the market is reacting to the news in various ways. Here are some standouts:

• Yields on the 10-year Treasury note fell 19 basis points, the biggest drop since the failure of Silicon Valley Bank in March.
• The Euro rose 1.7 percent against the U.S. dollar. It was the biggest increase in a year.
• Regional banks jumped more than 7 percent. It was their biggest increase since early 2021.
• The Russell 2000 small cap index, which struggled on interest-rate worries, surged 5.4 percent. It was the biggest gain in a year.
• Housing stocks and real-estate investment trusts rallied more than 5 percent, their biggest gains in over a year.
• Metal stocks jumped more than 5 percent, their biggest gain in a year. They may benefit from a weaker U.S. dollar and lower interest rates.