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US stock market rebound faces key inflation test | Business Section

NEW YORK (Reuters) — A rally that has pulled U.S. stocks off the edge of a bear market faces a significant test this week, when consumer price data provides insight into what more the Federal Reserve will need to do in its battle against the worst inflation in decades.

Despite a turbulent week, the S&P 500 is still up more than 5% from last month’s lows, which saw the benchmark extend its decline to nearly 20% from its all-time high. The index recently fell about 14% from its January 3 high after losing 1% last week.

More upside could hinge on whether investors believe policymakers are making progress in the face of soaring prices. Signs that inflation remains strong could bolster the case for even more aggressive monetary tightening, potentially spooking a market already battered by fears that a hawkish Fed could deal a serious blow to US growth.

“This market will likely stay in a range until we get a meaningful drop in inflation,” said Mona Mahajan, senior investment strategist at Edward Jones, who currently favors large-cap stocks over small-cap stocks. , given the capacity of large enterprises. absorb higher input costs and wages. “Obviously the impression next week will be key.”

The consumer price index or CPI for the 12 months to April rose 8.3%, down from the annual rate of 8.5% recorded the previous month, which was the largest gain from one year to the next in 40 years. Friday’s inflation report for May is one of the last key data ahead of the Fed’s June 14-15 meeting, when the central bank is expected to raise rates another 50 basis points.

If inflation “continues to be a problem, the Fed may not have the ability to stop later this year,” said Paul Nolte, portfolio manager at Kingsview Investment Management, adding, “More the higher the interest rates, the greater the struggle for the market.”

Nolte has generally reduced equity positions in the portfolios he manages, particularly in growth stocks, and increased cash levels, pointing to factors such as still high stock market valuations.

Investors weigh the data

The CPI report comes as investors gauge how the 75 basis points of monetary tightening already delivered by the Fed this year is affecting growth. Jobs data released on Friday showed U.S. employers hired more workers than expected in May and maintained a solid pace of wage increases, signs of strength that could keep the Fed on an aggressive tightening path monetary policy.

Meanwhile, gloomy views from several top business leaders, including JPMorgan Chase’s Jamie Dimon and Tesla’s Elon Musk, have weighed on hopes that the central bank can rein in inflation without hurting the economy. Musk said in an email to executives he had a “super bad feeling” about the economy and needed to cut about 10% of jobs at the electric car maker, Reuters reported on Friday.

Investors’ views on inflation are critical in valuing stocks, as rising prices have generally prompted the Fed to raise interest rates, with rising bond yields in turn reducing the value of future earnings on stocks. businesses. Rising prices also increase costs for businesses and consumers.

The S&P 500 is trading at around 18.7 times its past 12-month earnings, a rich valuation relative to other inflationary periods that suggests to investors that the current level of price increases may not last, according to Jeff Buchbinder. equity strategist at LPL Financial.

LPL believes inflation will eventually come down this year and the companies have strong earnings momentum. The company’s year-end target on the S&P 500 is between 4,800 and 4,900, which at the low end was about 16% above the index level on Friday. afternoon.

Others were less optimistic. Earlier this week, Morgan Stanley strategists called the latest rebound a “bear market rally” and, citing negative trends for earnings and economic indicators, forecast the S&P 500 to fall to around 3,400 in mid -august.

“There’s a consensus that we’ve probably seen the high prints or inflation spikes in the rearview mirror,” said Art Hogan, chief market strategist at National Securities. “If this turns out to be wrong…it’s going to overturn the apple cart for the markets.”