The rebound in May pushed the stock market back to a position close to an all-time high, while last month's pullback temporarily relieved the pressure — April inflation data to be released on Wednesday is widely regarded as a potential catalyst for the stock market to reach new highs or fall again.

Tom Essaye, founder of Sevens Report Research, analyzed the potential “disastrous, poor, and good” results of the April Consumer Price Index (CPI) readings on Tuesday.

The background is: Entering 2024, interest rate traders expect the Federal Reserve to cut interest rates by 25 basis points six or more times before the end of the year. But a series of higher-than-expected CPI reports and other inflation indicators have curtailed these expectations — traders currently expect to cut interest rates about twice this year.

The stock market was largely able to cope, but fell back in April. The stock market rebounded after Federal Reserve Chairman Powell told reporters on May 1 that interest rate hikes were unlikely to be the central bank's next step.

Up to now, the S&P 500 index has risen more than 9% during the year, closing on Monday only 0.6% below the record of 5254.35 points set on March 28. The Dow Jones Industrial Average is still less than 600 points from the 40000 point milestone, while the Nasdaq Composite is up more than 9% so far.

Whether investors can stay calm about the interest rate outlook may depend on April's data. Economists surveyed by the Wall Street Journal expect an average monthly CPI increase of 0.4% in April, and the annual rate will slow to 3.4% from 3.5% in March.

The core CPI, which excludes food and energy, is expected to rise 0.3% monthly and slow to 3.6% per annum from 3.8% in March. Core CPI data is getting more attention from policy makers and may be the key to market response.

Terrible

So what would trigger a violent reaction? Essaye thinks the threshold is 3.9%.

He wrote that core CPI reaching or exceeding this threshold may trigger a “strong sell-off”, further strengthening the idea that inflation is stubborn and that interest rates will be high for a long time. This may reverse the rebound of the past two weeks, as investors may reduce their expectations of interest rate cuts and only expect one rate cut in December.

It's no surprise that the S&P 500 index fell 1% or more; all sectors are likely to fall, although defensive stocks may perform better. He also said that this could cause the 10-year US Treasury yield to jump 10 to 15 basis points, thereby driving the ICE US dollar index above 106.

Not very good

If the CPI core annual rate is between 3.7% and 3.8%, it may not trigger such a sharp reaction, but it may still cause the stock market to decline and treasury bond yields to rise.

Essaye said that such a small drop in inflation will not dispel concerns that price pressure remains stubborn. It may trigger a “mild sell-off,” while “supercapital” technology stocks and cyclical stocks may perform better, while defensive stocks lag behind.

Good times

If the core CPI annual reading is at or below the expected 3.6% level, it will give the market a sigh of relief. Essaye said this means core inflation will fall further. Under these circumstances, “the new high should not come as a surprise,” and the stock market will continue to rebound since the April low, driven by other parts of the market other than “supercapital” technology stocks.

Essaye said this could also lead to a sharp decline in treasury yields. The 10-year yield may fall below 4.4% and return to the 3.75% to 4.25% range earlier this year. The dollar index is also likely to come under pressure as investors factor in two to three rate cuts in 2024.