In terms of factors influencing the US interest rate path, the influence of inflation data has receded behind employment data, but it has once again become a top priority for financial market participants this week.

The Consumer Price Index (CPI) for August, which was released on Wednesday, may ultimately become the decisive factor for the Federal Reserve's decision on whether to cut interest rates by 50 basis points at the September policy meeting. Since the end of 2008, the Fed has never lowered borrowing costs by such a large margin in one go, when the US was in the midst of the worst financial crisis since the Great Depression.

One of the biggest questions facing investors now is whether this Wednesday's inflation data, if it clears the way for the Fed to cut interest rates by 50 basis points in less than two weeks, will be seen as good news or bad news.

Friday's data showed a net increase of 0.142 million jobs last month, lower than expected, reinforcing the view that the labor market is slowing down. The report, along with downward revisions to job growth in July and June, has made investors uneasy and has not fully resolved the uncertainty about how much the Fed will cut rates in September.

Economists at Wells Fargo & Co. wrote in a report last Friday, "The August employment report does little to settle the debate about whether the central bank will cut rates by 25 basis points or 50 basis points this month. We stand by our expectation of a 50 basis point cut, but acknowledge the very real possibility of a 25 basis point cut."

At the same time, concerns over a larger-than-expected slowdown in the US economy led to a sell-off in US stocks last Friday, marking the worst start to September in over a decade. Short-term US Treasury yields plummeted, with the benchmark 10-year Treasury yield trading above the 2-year Treasury yield for the first time since July 1, 2022.

Jay Hatfield, CEO of Infrastructure Capital Advisors, based in New York and managing around $2.2 billion in assets, said that Friday's jobs report ruled out the possibility of a 50 basis point rate cut by the Federal Reserve in September, as the net gain of 0.142 million jobs and the 4.2% unemployment rate are still in line with normal economic growth.

However, Hartevelt added that if the Fed really cuts interest rates by 50 basis points this month, 'this means we will definitely fall into recession' because policymakers have always lagged behind the curve and have always insisted on a cautious path of rate cuts.

Last Friday, federal funds rate futures fluctuated as market participants were confused about how to interpret comments made by Federal Reserve Board member Bullard after the release of the data. Traders briefly expected a 79% chance of a 50 basis point rate cut in September, but then they turned to a 71% chance of a more conventional 25 basis point rate cut.

Elyse Ausenbaugh, head of investment strategy at JPMorgan Wealth Management in New York, and Emily Roland, co-chief investment strategist at John Hancock Investment Management, suggested that the August CPI report may be an important factor in the decision.

Keith Buchanan, senior portfolio manager of Global Investments, which manages $2.5 billion in assets, said that the August CPI report "will confirm or deny expectations of a 50 basis point rate cut, which would be the largest rate cut in a long time. As inflation declines, interest rates become more restrictive, so cutting the target rate by 50 basis points may not necessarily result in a completely accommodative stance."

Buchanan said in a phone call last Friday, 'The key question is whether a 50 basis point rate cut means the Fed has gone too far, for too long, on interest rates above 5 percent, and whether the economic situation is too weak, thus increasing the likelihood of a recession more than the Fed can accept.'

The portfolio manager said that the P/E ratio of US stocks is still around 21 times, which means that this level does not necessarily mean that the economy is about to fall into recession, so the pricing of all financial assets will be affected by the wording and tone of the Fed's next policy statement. Financial market participants will 'pay close attention' to what Fed Chairman Powell says at the post-meeting press conference on September 18 and whether he implies that officials are 'concerned about how quickly the economy is weakening and are ready to take further action'.

Currently, Wall Street expects Wednesday's CPI data to add color to a recent series of positive news on inflation.

Teams at Barclays and Bank of America Securities respectively forecast an overall CPI annual rate of 2.5% and 2.6% for August, in line with the market consensus. This is lower than July's 2.9%. They also expect core CPI year-on-year growth to remain at 3.2% after an approximately 0.2% month-on-month increase in August.

At the same time, the yield on US inflation-protected securities (TIPS) has been declining, which often reflects market sentiment towards government borrowing costs, inflation, the economy, and monetary policy.

According to data from Tradeweb, on last Friday, the yield on 10-year TIPS hovered around 1.69%, close to the lowest level since the end of December last year. The yield on 5-year TIPS has also been declining over the past 12 months to 1.64%.

William Huston, a general partner at investment firm Bay Street Capital Holdings in Fremont, California, said he has been waiting for a rate cut for over a year. 'Rate cuts are definitely needed,' Huston said on the phone last Friday. 'You will see consumers spending less money globally and businesses reducing investment. Therefore, a 50 basis point rate cut would be popular. The CPI report on Wednesday is the data highlight for the next week.'

Editor/Lambor