Today's markets: Sticky inflation sends FTSE down

It’s a poor start in Europe this morning with the FTSE falling 0.5 per cent with shares in Paris down 0.3 per cent. Frankfurt faring slightly better but is still slightly in the red. Overnight, the S&P 500 almost hit a record high but ended the day basically flat, with the Dow falling slightly. The dollar rose after hitting a 12-month low, and now all eyes are on the Federal Reserve who will announce how much it’s cutting by later on today.

Before we get there, the latest UK inflation print came out this morning and was steady at 2.2 per cent, ahead of tomorrow’s Bank of England meeting – always the bridesmaid. The worry for the Monetary Policy Committee is sticky services inflations sticky – up to 5.6 per cent from 5.5 per cent the month before. And core inflation rose to 3.6 per cent in August from 3.3 per cent in July. The BoE was expected to pause rate cuts tomorrow and the inflation figures tend to support this view. Markets suggest a one-in-four chance of a cut tomorrow.

The Fed should not have an impact as the MPC meets today and makes its announcement tomorrow (unless they have some dastardly central banker hotline). The pound rose on the inflation figures and could push up to 1.3230 against the dollar this morning. Bulls should look beyond to 1.3266, the recent two-year peak should the Fed go big with 50bps and sound dovish. 

There will be lots of takes and noise on the Fed today. Whether it’s 25 or 50bps matters little – the signal on the neutral rate and how fast they think they need to get there will be important. And also the landing – the Fed thinks it has room to move slowly – maintaining a degree of restriction for longer – but the worm may have already turned. I still favour 25bps over 50bps as a prediction (not a recommendation) – it gives them room to cut aggressively after the election and avoid being tarred with political interference. And with the market at an all-time high it’s hard to argue that financial conditions are overly restrictive. With the market pricing in a fair few cuts in the coming months, financial conditions remain accommodative and can stay that way with 25bps. Financial conditions are not overly restrictive – Chicago Fed index at loosest since Jan 2022.

Some might would argue it’s already too late and that the Fed has already made a huge policy mistake. Yesterday the two-year Treasury rate was 3.56 per cent, while the Fed funds rate was 5.33 per cent, resulting in a spread of -1.77 percentage points, which is the widest it’s been since 1988.

Investors are not concerned – the BofA Global Fund Manager Survey reports sentiment improving on ‘Fed cuts + soft landing’ optimism...you get both? It also notes nine in ten see a steeper yield curve whilst investors have tactically switched to bond proxies in September from cyclicals...but cyclicals the biggest beneficiaries of rate cuts.

By Neil Wilson, chief market analyst at Finalto