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Kelly Evans: It's not just CPI that's cooling

Scott Mlyn | CNBC

Before you shake your head and say c'mon, the CPI is still up more than 7% from a year ago and stocks are up 500 points? Ridiculous! let's review just how much the whole inflation picture has changed in the past few months. 

Back in June, the CPI was up 9.1% from a year earlier; the average price of gasoline hit $5.01 a gallon; home prices had jumped 18% from the prior year; and consumer sentiment had plunged to a record low reading of 50 in the University of Michigan index. 

Fast forward to today, with the fed funds rate now triple what it was back then, and the CPI has already fallen to 7.1%; the national average for gas is $3.24 a gallon and could soon be under $3; home prices are up just 10% from this time last year, and consumer sentiment has rebounded 10 points as inflation expectations, especially on a one-year basis, have pulled back from their highs. 

And those are just the "real-world" changes we can see already; leading indicators suggest an even more substantial cooling is coming. The Prices Paid index of the monthly ISM manufacturing index hit a new cycle low of 43 last month, "a level consistent with sub-2% PCE inflation," as MKM's Michael Darda points out. (PCE is the Fed's preferred inflation gauge, which was running at 6% year-on-year as of October.) 

"Bond market and monetary indicators now suggest the Fed is already beyond neutral," Darda wrote two weeks ago. "Rates should continue to fall as growth continues to slow, headline inflation eases back to 2% by mid-2023 and core inflation falls back to 2% by the fall or winter of next year." 

And sure enough, rates are plunging today. The 10-year Treasury yield collapsed by almost 20 basis points, from over 3.6% to nearly 3.4%, after the CPI report was released at 8:30 a.m. That lower yield will immediately translate into cooler mortgage rates. The two-year yield fell even more, as markets now see a much higher chance the Fed will back off more aggressive rate hikes in the near term. 

Tomorrow, in fact, is likely to mark the end of the Fed's string of 75-basis-point rate hikes. The expectation is for only a half-point rate hike at the conclusion of their policy meeting, but the market is clearly trying to tell the Fed it would like to see either just a quarter-point hike or even no hike at all. 

In fact, we'll probably need to see rate cuts or at least the hint that they could be coming in order to un-invert the deeply inverted yield curves. And until that happens, those hoping for a "soft landing" or no recession next year are likely to be disappointed. 

See you at 1 p.m!

Kelly

Twitter: @KellyCNBC

Instagram: @realkellyevans