To The Moon

December CPI is the pivotal data that provides important guidance for Fed's monetary policy. The market is quite optimistic since this week. $NASDAQ(.IXIC)$ has soared 3.4% which priced-in a lower CPI.

Why so optimistic?

Data lagging. Employment, CPI are all lagging data. For CPI,

• Energy prices have started to pull back, December oil price even YoY negative.
• Food prices has a lower MoM growth rate, and already peaked.
• Service prices, in which the shelter takes the largest proportion, usually has one season lags. With higher mortgage rate, rental market was hot in the mid-year of 2022. However, layoffs and low participation rate makes it no way to rise, but stay steady.
• Others, except for the transportation services (but the proportion is not high), are in control

Fed is transparent. Although Fed executives, including Powell, want to keep freshness to market (don't leave the market leading the policy), in 2022,  was fully guessed by the market.

Fed's attitude is that it cannot completely solve the inflation problem. Even if it lags behind, it needs to see a significant decline in the lagging data before considering softening the tightening policy.

If interest rate's peak ois 5%, the Fed will start to decline after inflation falls, their long-term target is 2%. That means, if CPI keeps below 7%, they have no reason to increase again.

Fed has no other choices ,that;s why market can bet.

what should we pay attention to a actual data release?

Buy the rumor, Sell the fact.

At present, the market unanimously expects the CPI in December to be 6.5%, and the core CPI has always been expected to be 5.7%. In fact, the market has already started the celebration dinner ahead of schedule optimistically, so it is easy to take profits after the actual data are released.

Start high and ending low is common .

If CPI beats market estimates, and the inflation deteriorates, market will not sell all the gains in advance, and possibility drop more of in case of higher terminal interest rate.

From the CME's Fed tool, the probability of raising interest rates by 25 basis points for the FOMC meeting on January 31st is 77%, while the probability of raising interest rates by 50 basis points is only 22%.

In general, we must prevent the callback after the actual results are released tonight.

What if the CPI data diverges?

Two situations.

One is that the overall CPI is better than expected (for example, 6.2%), while the core CPI is worse than expected (for example, 5.8%). This situation is more caused by the inflationary pressure on the service side, and is not determined by the commodity price, while the price on the service side is generally more sticky, which is a manifestation of deep inflation and will definitely make the Fed raise interest rates firmly. Naturally, it is more bad for the stock market.

The other is that the overall CPI is worse than expected (for example, 6.7%), while the core CPI is better than expected (for example, 5.7%). Although the probability is very low, it is friendlier than the above divergent situation, indicating that the pressure on the service side is weakened, and the energy price may fluctuate continuously. But it may still be regarded by the Fed as a signal that it needs to continue to control.