Morgan Stanley with the note:
This week, investors will be hyper-focused on the November CPI release on Tuesday and then the Fed’s reaction to it on Wednesday. If we had those data today and the transcript of the Fed’s meeting, it’s unlikely it would improve our ability to forecast how the markets will trade next week. In fact, we would hazard to guess it wouldn’t help anyone. First, the CPI is one of the most backward-looking data series and tells us little about where inflation is heading. Second, given how well telegraphed the Fed is with its moves, the CPI release is very unlikely to change its decision to raise 50bps next week or its forecasts for next year in a meaningful way. While it may affect some of the language in Chair Powell’s press conference, even that seems well telegraphed given his recent speech and interview at the Brookings Institution.
A major contributor to our tactically bullish call we made in mid-October was our view that inflation and the Fed’s reaction to it had already been priced into both bond and stock markets. In fact, at the time, we argued investors were potentially as off-sides on Fed hawkishness as they were in December 2021, just in the opposite direction. To recall, in December 2021, markets were priced for just two 25bps hikes in 2023even though inflation was running close to 7% on a y/y basis. Why? Because that is what the Fed’s dot plot was suggesting at the time. In fact, the market had bought this dot plot to such an extent that the terminal rate was just 1.45%. By October, that same dot plot was suggesting the terminal rate would reach 5% and it seemed like every Fed governor was trying to “outhawk” the others. This was occurring in spite of the fact that the yield curve was more inverted than it had been in decades and largely anything interest rate sensitive in the economy had come to an abrupt halt. In short, bond yields had overshot to the upside, in our view, and we believed they would fall back to earth as the obvious oncoming slowdown started to get priced. Fast forward to today and yields have fallen 80bps, which provided the support for a 15% rally in equities driven exclusively by higher valuations. As an aside, the equity risk premium (ERP) actually fell during this
period, which added another risk for investors to contemplate. In short, the risk/reward at 4100 when we decided to pull back on our tactical rally call looked poor again.
