Tuesday's CPI report likely to show inflation continuing to run hot, putting the Fed in tough spot

The consumer price index is expected to come in at a 5.4% year over year pace for August, according to the Dow Jones consensus estimate.
Any inflation data is important for the markets, but this report could set the tone for trading ahead of the Fed's meeting next week.
Some pros say there are concerns the Fed could move up its timetable on tapering its bond purchases if the report is hot.

Tuesday's report of the consumer price index could set the tone for markets ahead of next week's Federal Reserve meeting, particularly if it is hotter than expected.

The CPI is expected to have risen 0.4% in August month over month, according to a Dow Jones consensus estimate. On a year-over-year basis, CPI would then be up 5.4%, the same pace it was in July. Excluding food and energy, CPI is expected to rise 0.3% or 4.2% year over year, according to estimates.

CIBC Private Wealth U.S. chief investment officer David Donabedian said a hotter number could be a worry for stocks and send bond yields higher. Yields move opposite price.

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"Certainly the trend has been for the inflation number to come in above expectations. I think if that happens again, it will feed this narrative that high inflation is going to stick around longer than the Fed had been planning," he said.

Donabedian said he sees about a 1-4 chance a hot CPI number could prompt the Fed to move sooner to announce the tapering. He said he is watching to see if things that might be more persistent, like rising rents will show up in the number.

"The Fed keeps saying they see inflation as being transitory. Yet the inflation data is getting worse rather than better," CFRA chief investment strategist Sam Stovall said. "If it's hotter than expected, I think the stock market's going to continue to be soft. I think investors are trying to decide whether there's more to this worry, than not."

Stocks posted a mild comeback Monday following five days of losses for the Dow Jones Industrial Average partly tied to the inflation concern.

Some Fed officials in recent weeks have said they believe the central bank should start paring back its $120 billion a month bond purchases sooner rather than later. But Fed Chairman Jerome Powell has said he wants to see more strong employment reports before tapering is announced.

Stovall said he does not expect a formal announcement until November. The Fed's move away from the bond purchase program would be its first major step away from it easy policy and ultimately sets the stage for interest rate hikes.

"If we end up with both headline and core CPI stronger than anticipated, I think certainly statements will be made regarding inflation, while it might not force them to say anything about tapering sooner," Stovall said.

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