Gold, SGX Nifty Stumbled on Higher US Core Inflation; Fed May Hike 75 bps in Sep

Gold and Dow plunged early Tuesday U.S. session on hotter than expected inflation data for August. On Tuesday, all focus of the market was on August inflation (headline CPI) and core inflation data, which may decide the quantum of rate hikes by the Fed on 21st September (either +75 or +50 bps). The U.S. inflation eased for a second straight month to +8.3% in August, the lowest in 4 months, from 8.5% in July but above market expectations of 8.1% (y/y). On a sequential (m/m) basis, the headline inflation (CPI) in the U.S. edged down -0.035% in August against a -0.012% reading in July and line with market expectations.

The BLS data also shows core inflation in the U.S. surged +6.3% in August from +5.9% in July, higher than the market expectations of +6.1% and the highest since Mar’22. On a sequential (m/m) basis, the U.S. core CPI jumped +0.6% in August, accelerating from a +0.3% increase in July, and above market expectations of a +0.3% rise.

Overall, till August, the average 2022 headline CPI (inflation) was around +8.3%, while the average sequential inflation was +0.76%, which is equivalent to a +9.12% annualized rate. The average core inflation in 2022 (till August) was around +6.15% (y/y), while the average sequential core CPI was around +0.52%; i.e. +6.30% annualized rate.

Fed goes by core PCE inflation. Going by the present correlation ship, the August core PCE inflation may come around +5.0% from +4.6% in July. In brief, core PCE inflation, at an average rate of around +5.0% is still substantially higher than the Fed’s +2% target or even the intermediate target of +4.0%. The market was expecting moderation of sequential core CPI to +0.3% in August after similar reading in July against the average rate of +0.5%. Fed needs sequential core CPI/PCE inflation at around +0.2% on a sustainable basis for its price stability (inflation/core PCE) goal of +2.0%.

On Tuesday, after inflation data, Fed swaps show the terminal rate above 4.15% in early 2023, while Fed swaps show a 75 bps increase for September that is fully priced (100%) after the CPI. Financial (Wall Street) stability is also an unofficial mandate for the Fed besides price stability, especially ahead of the Nov’22 U.S. mid-term election. Fed may hike another +150 bps minimum in the rest of 2022 (September, November, and December) as inflation is still substantially higher than

Fed’s 2% target despite some early signs of easing, while economic growth is still robust and the labor market is still tight despite some early signs of moderation. Since September, Fed has also doubled the pace of QT, which will cause further tightening in financial conditions (higher bond yields/borrowing costs).

Fed may further hike cumulative +150 bps for the rest of 2022: +75 bps in September, followed by +25 bps each in November and December (depending upon the inflation trajectory). Moreover, Fed will publish SEP/dot-plot. Fed may continue to hike either at +50 or +25 bps to reach a positive real rate by H1CY23 at least wrt core PCE inflation, which was +4.6% in July’22. Assuming core PCE inflation around +4% and core inflation +5% by H1CY23, Fed may hike to at least +5.00% by H1CY23 (@+25 bps in 4 months), so that core PCE inflation goes down to +2% levels by H1CY24, ahead of Nov’24 U.S. Presidential election without causing an all-out recession. Fed Chair Powell is under immense pressure from the White House as well as some Democrat Senators to bring down inflation without causing outright inflation through calibrated tightening (softish landing).

Bottom line:

Fed may hike +75 bps on 21st September and indicate +25 bps hikes in November and December. Then Fed may further hike +100 bps by H1CY23 depending upon the actual core PCE inflation trajectory. All of these may be viewed by the market as less hawkish, which will boost Gold and Wall Street Futures as well as Dalal Street Futures.

Looking ahead, whatever may be the narrative, technically Gold now has to sustain over 1675-1680 for any recovery; otherwise may fall more.