JPMorgan Maps Out Game Plan for CPI: Bracing for Market Turbulence Ahead

Andrew Tyler, who helms U.S. market intelligence at JPMorgan, notes that the price of at-the-money straddles expiring on the day of the CPI release is a harbinger of the anticipated volatility. The market's focus will be on the core CPI figures, which exclude food and energy prices due to their inherent volatility, offering a clearer gauge of inflationary trends. In May, the core CPI posted a modest 0.16% increment from the previous month, marking the mildest rise since August 2021.

Traders at JPMorgan have delineated six possible scenarios for this week's U.S. CPI report and have provided their expectations for how the S&P 500 index might react to the report.

Under this scenario, JPMorgan traders predict the S&P 500 index will rise between 0.5%-1%, as this would amplify calls for the Fed to cut interest rates in September. A key factor is whether the cooling inflation is attributed to housing prices, as this sector is one of the main reasons for persistent inflation. Any substantial cooling in housing prices would be welcomed and could indicate further easing of inflation.

JPMorgan believes that whether the increase is precisely 0.2% or 0.25% is essential for the initial market reaction, as 0.25% rounds up to 0.3%, which could lead to a negative initial response, whereas 0.2% might be perceived positively. In this scenario, JPMorgan expects the S&P 500 index to rise between 0.25%-0.75%.

In this scenario, the S&P 500 index is expected to fall by 0.75%-1.25%, as such a report would likely indicate a rise in housing-related inflation.

Investors would favor this outcome as it may suggest that inflation in commodities is cooling at an accelerated pace. Under this condition, the S&P 500 index is anticipated to rise by 1%-1.5%.

JPMorgan traders think that such a hot inflation report would lead to a 1.25%-2.5% decline in the S&P 500 index. This is the first tail-risk scenario, which means there could be a reversal in the cooling process of core commodity inflation, thereby pushing up the monthly inflation figures. Depending on the specific CPI data and considering last week's weak growth figures, the best-case scenario for the market could shift towards a recession narrative, and the worst-case would be a stagflation narrative.

This tail-end scenario would drive the S&P 500 index up by 1%-1.75%, with JPMorgan traders noting that this could even lead to calls for a rate cut as early as July.

This guidance comes amid an environment of subdued market volatility. The Cboe Volatility Index (VIX), often referred to as the market's "fear gauge," is currently hovering around 12—a near one-year low and significantly below the 20 threshold that typically raises trader anxiety. Furthermore, market pricing currently suggests a 70% likelihood of a Federal Reserve rate cut in September.

Previously, the eight previous CPI announcements have produced mixed outcomes for the S&P 500, with the ETF linked to the S&P 500 index closing higher on four occasions and lower on four. While past red days have seen an average decline of 0.60%, the average increase has been 0.8%. Notably, the historical average actual stock return of 0.72% supersedes the historical average straddle premium, which indicated a move of 0.65%, underscoring the complexity of predicting market reactions to inflation data, according to data provided by Market Chameleon.

Investors are advised to remain vigilant as this week's CPI data holds the potential to disrupt the recent calm in the stock market and significantly influence the trajectory of the Federal Reserve's interest rate policy.