"The most exciting Wednesday" is here. Tonight, the US CPI and the FOMC decision will be released together, and global investors are eagerly anticipating it.

The following are the main points to watch:

• Pay attention to the MoM core CPI. If the MoM core CPI and the key OER rent are weaker than expected, the market may begin to price in a rate cut in July.
• The MoM core CPI will also be the key variable that dominates the ups and downs of US stocks that day. Core inflation rate must increase by more than 0.3% MoM to bring pressure to the market. With an increase between 0.25% and 0.30%, the probability is 25%, and the S&P 500 index is expected to rise by 0.75% to 1.25%.
• The FOMC Fed will most likely "stand still" this time. Most analysts expect that the number of rate cuts predicted in the March dot plot for this year may decrease from three times to two times or even one time. Some even predict that there will be no rate cuts this year.
• If inflation heats up again beyond expectations, it may prompt more Fed officials to lower their expectations of rate cuts this year on the dot plot; if the data basically meets expectations, the expectation of two rate cuts this year may occupy the upper hand.

May CPI data is coming. Will it change the dot plot?

The importance of the US May CPI to be released tonight is beyond doubt. This data is a reference for the FOMC to subsequently release the "dot plot," and Wall Street is optimistic that inflation is showing a downward trend. If the MoM core CPI and the key OER rent are weaker than expected, the market may begin to price in a rate cut in July.

At 20:30 this week on Wednesday, Beijing time, the US Department of Labor will release May CPI data. Most believe that inflation will slow down. The current consensus forecast is:

MoM CPI is expected to rise by 0.1%, a slowdown from 0.3% in the previous month, with the YoY increase expected to remain stable at 3.4%;

The core CPI excluding food and energy is expected to be 0.3%, the same as the previous month, and the YoY increase is expected to slow down from 3.6% to 3.5%.

In terms of sub-items, commodity inflation continues to maintain a "decline trend", while stubborn service inflation is beginning to weaken.

Key housing inflation, which accounts for 1/3 of CPI, Goldman Sachs expects MoM rent and OER to stabilize at 0.35% and 0.42% YoY growth respectively, while UBS is even more optimistic that OER will be below 0.40% for the first time. As housing inflation data has a lag, the expected slowdown trend will continue in the future.

In terms of other core inflation, core commodity prices have basically returned to pre-epidemic levels. Due to rising foresighted indicators such as auctions, second-hand car prices in May are expected to rebound by 0.3%, but inflation in transportation, medical care and other services will further slow down.

Energy prices weakened overall inflation, with gasoline, electricity and fuel prices falling slightly, while natural gas prices rose slightly. Food prices are expected to rise by 0.2% MoM due to seasonal factors.

Although US inflation is continuing to cool, some Fed officials still emphasize the need to remain patient and see a further decline in inflation in the future. Analysts point out that if inflation heats up again beyond expectations, it may prompt more Fed officials to lower their expectations of rate cuts this year on the dot plot; if the data basically meets expectations, the expectation of two rate cuts this year may occupy the upper hand.

The Fed may continue to stand still, focusing on economic forecasts, dot plots, and Powell's speech.

Six hours after the CPI data release, which is early Thursday morning Beijing time, the Fed will announce the highly anticipated June monetary policy decision.

Although the central banks of Canada and Europe have already cut interest rates, the market generally expects that the Fed will continue to stand still this time and maintain interest rates at 5.25%-5.5%. At that time, the market will focus on the Fed's latest economic forecast and dot plot, as well as Fed Chairman Powell's stance, looking for clues about future monetary policy trends.

Most analysts predict that the number of interest rate cuts predicted in the June dot plot may be lowered from three times in March to twice or once, and some even predict no interest rate cuts this year.

Goldman Sachs believes that the Federal Reserve will cut interest rates twice this year, and the first rate cut may be as early as September; Morgan Stanley predicts that interest rates will only be cut once this year; Citigroup holds its views on three rate cuts; UBS believes that if the Federal Reserve releases a signal to cut interest rates, then it will have to wait until November or December to usher in the first rate cut this year.

Considering that high interest rates and sticky inflation are prominent, the Federal Reserve is likely to further reduce its economic growth expectations for this year and next, while raising its unemployment rate and inflation expectations.

FOMC Vice Chairman and New York Fed President Williams gave his personal expectations earlier: the inflation rate this year is 2.5% (higher than the Federal Reserve's March forecast of 2.4%), It will approach 2% by 2025 (slightly lower than the Federal Reserve's March forecast of 2.2%). The economic growth rate in 2024 will be between 2.0-2.5%, the unemployment rate will be 4.0%, and it is basically the same as the Federal Reserve's forecast.

However, there are two issues worth noting here.

The first is that the May CPI data may influence the final dot plot. If CPI continues to perform poorly, it proves that stickiness still exists, and more officials may choose to cut interest rates only once this year or even not at all. Conversely, if inflation sees an unexpected decline, consensus may be reached on two cuts. The Federal Reserve probably saw this inflation report before it was released.

The second is the limitation of the dot plot itself. Because the number of FOMC officials is not many (19), changing the minds of individual officials may affect the final median forecast. Therefore, in the end, the latest actual data and public speeches of Federal Reserve officials should be used to judge the policy prospects.

Powell will hold a press conference at 2:30 pm Eastern Summer Time in the United States. Goldman Sachs and many other investment banks expect that his stance will not change significantly. Powell previously stated that the data for the first quarter of this year has reduced confidence in cooling inflation, which has caused the Federal Reserve to be unable to give a clear indication of whether or when it can cut interest rates.

Currently, the Federal Reserve is maintaining a surprisingly consistent "wait-and-see" stance internally. Officials unanimously believe that the labor market is still strong, and although inflation has fallen, it is still higher than the target of 2%. The best choice for now is to keep interest rates unchanged and watch the future.

However, the economic outlook is not smooth sailing. Recently, some economic data has shown weakness, especially the real estate market has been suppressed. Although the labor market has not shown obvious deterioration, corporate layoffs have increased, and wage increases have cooled significantly compared to the epidemic period. This means that as long as inflation cools smoothly, the Federal Reserve will have more room to adjust its policy.

Will there be many stimuli in the market tonight?

Goldman Sachs trader Lee Coppersmith made predictions on how the market will react after the release of CPI data (the left column in the figure is the month-on-month growth rate of core CPI, and the right column is the corresponding forecast for the S&P index). He believes that the month-on-month growth rate of core inflation needs to be higher than 0.3% to bring pressure to the market.

JPMorgan also believes that the month-on-month growth rate of core CPI is the key variable dominating the rise and fall of US stocks that day, and has made the following deductions:

• If it is higher than 0.4%, the probability is 5%. In this scenario: the expected rate cut in 2024 will disappear, the market may reconsider raising interest rates, bond yields may rise by 12-15 basis points, and the S&P 500 may fall by 1.5% to 2.5%.
• If it is between 0.35% and 0.40%, the probability is 15%. In this scenario: the expected rate cuts in September and November will be reduced, the bond market will be under pressure, and the S&P 500 may fall by 1% to 1.25%.
• If it is between 0.30% and 0.35%, the probability is the highest, at 40%. In this scenario: the impact on the bond market is relatively mild, and the S&P 500 index may fall by 0.75% or rise by 0.75%.
• If it is between 0.25% and 0.30%, the probability is 25%. This scenario is bullish for risk assets, and the Goldilocks narrative may return to the market. The S&P 500 index is expected to rise by 0.75% to 1.25%.
• If it is between 0.20% and 0.25%, the probability is 12.5%. Once it happens, the expected rate cut in September will soar, and some people may even expect a preventive rate cut in July. It is expected that the yield curve will become steeper, cyclical and value stocks will gain, and the S&P 500 is expected to rise by 1.25% to 1.75%.
• If it is lower than 0.20%, the probability is only 2.5%. In this scenario: the expected rate cut in July will increase significantly, US bond yields will plummet, and all risk assets (except commodities) will rebound. The stock market will generally rise, and the S&P index is expected to rise by 1.75% to 2.50%, and the performance of the NASDAQ 100 index and the e-mini Russell 2000 index will exceed the S&P 500.

For the Fed interest rate decision, keeping rates unchanged is certain, and the key lies in the dot plot and Powell's remarks.

There are roughly three types of updated dot maps:

1. Baseline scenario: The median at the end of 2024 will be two interest rate cuts.
2. Dovish scenario: The median at the end of 2024 will be three interest rate cuts.
3. Hawkish scenario: The median at the end of 2024 will be one interest rate cut.

Currently, the baseline scenario, which has the highest probability of a reduction in interest rates one less time than the previous year on the dot map, is believed by Goldman Sachs to, although unsurprisingly, potentially cause new upside pressure on yields and bring downside space to the stock market.