CIO View

Bad news is good news, at least for now

"Prediction is difficult - particularly when it involves the future," Mark Twain famously observed. Well, making predictions is our business. Regarding our central bank predictions, we can’t complain. Last week’s April U.S. inflation numbers seem to have come just in time to spare us an exhausting "the Fed won’t cut rates this year" discussion. Just as a gentle reminder of the direction the discussion was already taking, it was a little over a month ago that Larry Summers remarked(1): "You have to take seriously the possibility that the next rate move will be upwards rather than downwards." Back then, the market had shifted from expecting six Fed rate cuts for this year to less than one.

One labor market report and one CPI number later, markets are back to expecting two Fed rate cuts. Right now, it looks like our Fed funds rate call for this year might prove accurate (knock wood!). As for the ECB, things look even better (knock wood, again). "June will be a good opportunity to make a first move in removing restriction," Dutch central bank chief Klaas Knot said last week, someone who is generally associated with the hawkish camp(2). His Belgian counterpart, Pierre Wunsch, added that the first two rate cuts are "close to a no-brainer.”(3) Fits perfectly to our predictions. Fasten your seatbelts!

Stock markets reacted euphorically to the U.S. April inflation numbers. Instead of the 3.5% CPI increase seen last month, consumer prices rose by only 3.4% year-on-year in April. A small step for statistics, but a great leap for mankind, or at least the part invested in stocks, one might think. And what a party stock markets had: "Of the world’s 20 largest stock markets, 14 have hit all-time highs recently. The MSCI ACWI Index, which tracks developed and emerging markets, has been on a record-breaking run, setting another new high on Friday. In the US, the S&P 500 and Nasdaq 100 indexes hit records this week, while the Dow Jones Industrial Average crossed 40,000 for the first time ever. Meanwhile, the biggest bourses in Europe, Canada, Brazil, India, Japan, and Australia are currently at or near their peaks," Bloomberg observed.(4)?

"New stock market highs are usually worth celebrating. Not this time," Barron’s commented, however.(5) Even 3.4% inflation remains quite far away from the Fed’s 2% target. "Even more frightening is the fact that economic growth appears to be slowing. Right now, bad news is being taken as good news." But that could change: "there will be a point where too much bad news becomes, well, bad news."

One source of increasingly bad news is the state of the U.S. consumer. Year-to-date, U.S. retail sales have grown at a sluggish, annualized rate of 0.8%. Consumer confidence is diving. "US credit card delinquency rates jumped to 8.9% in Q1 2024, the highest since 2011. To put this in perspective, the delinquency rates in 2021 were just ~4%."(6) And the U.S. economic surprise index has fallen to -23.2, compared to standing around +40 a month ago. Heading south …

Another latent source of bad news is geopolitical events. At the time of writing, it appears that the helicopter crash in Iran was an accident, and the usual indicators like oil price, the dollar, or government bond yields have barely reacted. Only the gold price traded about 1.5% percent higher, however giving up part of its initial gains later in the day.

Stock markets didn’t bother much either, gaining moderately yesterday. Michael Wilson, one of our favorite stock market strategists, sharply raised his S&P 500 forecast over the weekend, from 4,500 to 5,400.(7) His explanation: "In the US, we forecast robust EPS growth alongside modest multiple compression."

Tomorrow, UK April inflation numbers are due for release. The market expects a significant drop in the core reading, from 4.2% to 3.6%. Later, the minutes of the most recent FOMC meeting will be published. On Thursday, we’ll get preliminary May purchasing manager indices. We’ll pay particular attention to the S&P Global U.S. Services PMI, which so far remained above 50, while its more popular peer from the Institute for Supply Management, the ISM non-manufacturing PMI, dropped below 50 in April. Friday’s U.S. durable goods orders will round it off for this week.

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1. Source: Bloomberg, April 10, 2024.

2. Source: Bloomberg, May 14, 2024.

3. Source: Bloomberg, May 14, 2024.

4. Source: Bloomberg, May 14, 2024.

5. Source: Barron’s, May 17, 2024.

6. Source: X, May 20, 2024.

7. Source: Bloomberg, May 20, 2024.

Forecasts are based on assumptions, estimates, views and hypothetical models or analyses, which might prove inaccurate or incorrect. Past performance is not a reliable indicator of future returns. Source: DWS Investment GmbH as of 5/21/24.