Inflation data rocked the U.S. stock market in 2022: What investors need to know about Tuesday’s reading

Few things moved the U.S. stock market last year like inflation data and the next reading is due this week.

Under the spotlight is the January consumer price index, which is set to be released at 8:30 am Eastern on Tuesday. Traders are expecting the data to provide more clues on whether the Federal Reserve may pause its interest rate hikes later this year in its combat with inflation that was running at a 40-year high last year.  

In fact, CPI data publication days have been among the most volatile for stocks for the past year.

When the August inflation data arrived hotter than expected on Sept. 13, the S&P 500 and Nasdaq Composite plunged 4.3% and 5.2%, respectively, their largest single-day drop in 2022, according to Dow Jones market data. 

By contrast, when the October CPI data was released on Nov. 10, the S&P 500

and the Nasdaq Composite

rallied over 5.5% and 7.3%, respectively, recording their largest single day rally in 2022.

Intraday volatility tends to be significant as well during CPI days in recent months. When the September data was released on Oct. 13, the Dow Jones Industrial Average

surged nearly 1,500 points from its trough to peak, recording one of the biggest intraday swings for the index in recent years.

The inflation data for January and the following months especially matters, as it may point to whether the Fed could successfully steer the U.S. economy to a “soft landing,” where inflation falls while unemployment remains low, according to Scott Ladner, chief investment officer at Horizon Investments. 

Earlier this month, Fed Chair Jerome Powell said for the first time that “the disinflationary process” is under way. He reiterated the point in the past week, saying in an interview that “the disinflationary process, the process of getting inflation down, has begun and it’s begun in the goods sector, which is about a quarter of our economy.” 

Still, “the reality is we’re going to react to the data, so if we continue to get, for example, strong labor-market reports or higher inflation reports, it may well be the case that we have do more and raise rates more than is priced in,” he added. 

Powell has been sending a message that as long as inflation continues to ease, the Fed will allow economic growth to remain robust, according to Horizon’s Ladner. 

Read: U.S. could be heading into period of ‘transitory disinflation,’ traders and strategists say

That being said, the market is not as scared of CPI reports anymore, as the annual rate of inflation had fallen for six months in a row, said Brian Overby, senior markets strategist at Ally. “The market used to be so intently nervous about CPI,” Overby said.

Read: Traders brace for a blowup as cost of protection for U.S. stocks hits highest level since October

However, some uncertainty remains. “I think most economists and policymakers just kind of assume that it will be a one way development in terms of inflation from here on now, but that might not be the case,” Megan Greene, global chief economist at the Kroll Institute, told MarketWatch in a phone interview.

The data comes after the stock market’s 2023 rally stalled in the past week. The Nasdaq Composite saw a 2.4% fall, ending a string of five straight weekly gains, while the S&P 500 shed 1.1% and the Dow lost 0.2%. Stocks remain up solidly for the new year.

See: Why the stock market’s ‘FOMO’ rally stalled out and what will decide its fate

Economists polled by the Wall Street Journal forecast a 0.4% increase in the January CPI, which would slow the year-over-year rate to 6.2% from 6.5% in December. Year-over-year CPI peaked at a roughly 40-year high of 9.1% last summer. Core CPI, which excludes volatile food and energy prices, is expected to rise 0.3% in January, with the year-over-year rate at 5.4% versus 5.7% in December.

Jay Hatfield, chief executive at Infrastructure Capital Management, said he is concerned that the core CPI might print hotter than expected. 

“What’s been driving inflation down has been the volatile component of used cars. And our data shows used cars inflation is actually going up and not down,” Hatfield said. Meanwhile, the way that the Bureau of Labor Statistics calculates shelter costs tends to lead the number to print higher, Hatfield said.

Louis Navellier, founder and chief investment officer at Navellier & Associates, said he is paying particular attention to owners’ equivalent rent, which is part of the shelter component of CPI. It’s rise accelerated from November to December and the Fed “really does want to see that fall, because that’s the last bit of inflation we need to fall,” Navellier said. 

Horizon’s Ladner, on the other hand, said that the Fed itself had signaled that housing inflation would remain sticky, thus it is unlikely to pay much attention to it. Ladner said he is mostly focused on non-housing services-related inflation. “There’s a lot of clarity on what’s happening with goods inflation — it’s obviously coming down,” Ladner said.

Complicating the picture, the January report will see the Bureau of Labor Statistics introduce new weightings for its calculation of the CPI for the coming year. For this year, the bureau has changed its methodology from using consumption data during a two-year period to only one year to weight the CPI components. 

It means that the 2023 CPI report will be only based on expenditure data in 2021, when the spending was more heavily weighted toward goods consumption instead of services, according to Richard de Chazal, macro analyst at William Blair. 

The January data will in turn also be weighted more towards goods expenditures, which had been moderating, de Chazal wrote in a Friday note.