The Market’s Real Anchor Right Now: Expectations, Not Energy Prices

• NY Fed one-year inflation expectations eased from 3.6% to 3.5%.

• Three- and five-year expectations were little changed.

• It’s a signal consumers are less worried about the long-term outlook.

Inflation is a lagging worry; consumer expectations are the leading indicator…

As I noted yesterday, this week brings a significant data point as it relates to the interest rate outlook. On Wednesday, the U.S. Bureau of Labor Statistics is scheduled to release its May consumer price index data. Wall Street anticipates headline growth could hit 4.2% on an annualized basis. Based on last month’s gasoline price data, the estimate likely isn’t far off. It would mark the fastest pace of growth since mid-2023…

I say this because based on the Energy Information Administration’s latest figures, the average price for a gallon of gasoline was up 41% in May compared to the year prior. That was the third straight month of double-digit price growth. Considering so many individuals buy gas on a weekly basis, you’d think consumer inflation expectations are exploding higher. Yet, they aren’t. And that’s important when it comes to setting interest rates.

You see, the Federal Reserve’s quietly frets over inflation expectations. Policy makers know that sentiment can quickly morph into reality. When consumers think prices will accelerate later, they change their behavior now. They buy goods ahead of time and stockpile. Future demand gets pulled forward into the present. And if inventories plummet, the upward price pressures increase. Once that happens, our central bank must act.

Based on the most recent NY Fed data, households’ inflation expectations are holding relatively steady. The outlook for price growth eased in the short term, but held steady in the longer term. In fact, expectations are right around their long-term averages. As long as they stay anchored, that’s a signal to the Fed that it can afford to leave monetary policy unchanged for a touch longer as it waits for a resolution in the Middle East. That cushion supports a steady rally in the S&P 500 Index.

But don’t take my word for it, let’s look at what the data’s telling us…

Yesterday, the New York Fed released its Survey of Consumer Expectations for May. It summarizes responses from 1,300 households on inflation, household finances, and the labor and housing markets. The survey rotates participants to keep the sample fresh.

This survey gives policymakers a window into how people think and how they’re likely to behave. These readings matter because they show whether households expect inflation to keep climbing or drift back toward normal. And based on the latest results, near‑term expectations were little changed last month…

• Inflation expectations for the next 12 months declined to 3.5% from 3.6% in April.

• The NY Fed’s records going back to 2013 show this gauge averaging just above 3.3%.

• The measure may be up since January, but remains within its recent range.

The longer‑term picture tells the same story. Consumers haven’t shown signs of bracing for a new wave of price growth…

• The three‑year inflation expectation remained at 3.1% in May.

• That’s still in line with the survey’s historical norm.

• The latest data is also consistent with pre-pandemic levels.

Move out to five years, and the pattern holds…

• Expectations stayed at 3% for the ninth straight month

• That’s just above the longer‑term average of 2.8%.

• This isn’t the runaway inflation data you hear about in the media.

As noted at the start, the Fed pays close attention to these numbers. Policymakers want to know how much support they can introduce for the economy without reigniting the long‑term inflation surge we saw in 2021. We’ve had a few bumps, but nothing that resembles a repeat episode, at least not according to the NY Fed’s latest read.

I have no doubt that the May inflation numbers are going to make more than a few policymakers feel uncomfortable. The culprit is once again going to be higher oil prices tied to the conflict in Iran. Yet, the early June EIA data indicates prices are already down about 4%. Based on the local gas stations near me, pump prices have already dropped back below $4, or a slide of more than 13% from May’s $4.61 average.

Fed Chair Kevin Warsh has indicated the central bank is still trying to look through the shift. Policymakers don’t want to react too soon to an event that could prove short‑lived in the grand scheme of things. But their patience could be tested if the Middle East standoff continues to drag out.

This is why the NY Fed’s expectations data is an important tell. If households remain anchored, and so far, they are, the Fed doesn’t need to rush rate hikes. In fact, if dialogue from the U.S. and Iran is an indication that Middle East tensions could ease sooner rather than later, the central bank could wind up with room to keep supporting domestic expansion early next year. That backdrop would help to ease borrowing costs, stoke the economy, and underpin a long‑term, steady rally in the S&P 500.

Five Stories Moving the Market:

OpenAI, the maker of ChatGPT, filed confidentially for an IPO, joining artificial intelligence rivals in tapping public markets to fund ambitious growth plans – Bloomberg. (Why you should care – OpenAI is said to be targeting a potential listing as soon as this fall)

Applied Digital has signed a 15-year lease with a U.S.-based hyperscaler at its Delta Forge 2 site ​which is expected to generate about $5.2 billion in ‌revenue over the period; the new agreement covers ​210 megawatts of computing capacity and marked Applied Digital’s third long-term lease with the same investment-grade ‌hyperscaler – Reuters. (Why you should care – Applied Digital currently had previously announced major long-term lease agreements with CoreWeave)

Apple showed off a new AI version of its Siri chatbot, technology developed with Google that the iPhone maker hopes will help power a comeback in artificial intelligence; the availability of new features will be limited by cost, geography, and device, though people can buy increased access with an iCloud+ subscription – WSJ. (Why you should care – the rollout seems primed to kickoff a new Apple device upgrade cycle)

Alphabet’s Google will rely on Intel for more than 3 million specialized AI chips in 2028, according to a report by The Information; Google decided to tap Intel to make some of its tensor processing units after months of testing the chipmaker’s technology – Bloomberg. (Why you should care – the arrangement points to the rising demand for compute power and the lack of available manufacturing capacity at industry stalwart Taiwan Semiconductor)

PepsiCo is running 35 driverless trucks on Arizona roads, marking it as the first major U.S. consumer-goods company to disclose the real-life, large-scale use of autonomous trucks on public roads; they are traversing busy highways and local streets as they transport PepsiCo products between bottling plants, storage facilities and stores like Walmart and Dollar General – WSJ. (Why you should care – Pepsi’s trucks are outfitted with sensors and computers but keeping the routes simple to limit potential complications or mistakes)

Economic Calendar:

Earnings: CASY, LE, SAIL, SJM, UNFI

Germany – Exports, Imports for April (2 a.m.)

Germany – Industrial Production for April (2 a.m.)

U.S. – NFIB Small Business Optimism for May (6 a.m.)

U.S. – ADP Employment Change Weekly (8:15 a.m.)

U.S. – Exports, Imports for April (8:30 a.m.)

Canada – Exports, Imports for April (8:30 a.m.)

U.S. – Existing Home Sales for May (10 a.m.)

U.S. – Wholesale Inventories for April (10 a.m.)

China – Exports, Imports for May (10:15 a.m.)

Treasury Auctions $50 Billion in 52-Week Bills (11:30 a.m.)

Treasury Auctions $65 Billion in 6-Week Bills (11:30 a.m.)

U.S. – EIA Short-Term Energy Outlook (12 p.m.)

ECB’s Lagarde (President) Speaks (12:30 p.m.)

Treasury Auctions $58 Billion in 3-Year Notes (1 p.m.)

U.S. - American Petroleum Institute Crude Oil Inventory Data (4:30 p.m.)

Japan – PPI for May (7:50 p.m.)

China – CPI, PPI for May (9:30 p.m.)