US inflation is broadly easing and bolstering expectations for the Federal Reserve to continue to downshift interest-rate hikes, but sticky core prices mean there is still the risk that policymakers will stay with its current pace, analysts say.
After the past week's December inflation report that showed the annual rate slowed to 6.5% from 7.1% in November, expectations jumped for the Fed to raise its benchmark interest rate by 25 basis points on February 1, down from last month's 50-basis-point hike.
But inflation remains above the Fed's 2% target, and policymakers are keeping a close eye on prices that exclude energy and food. The December core rate was 0.3% on a monthly basis, up from 0.2% in November. Shelter inflation that monitors costs for renters and homeowners climbed 0.8%. The Bureau of Labor Statistics said the shelter index was the "dominant factor" that drove the core index higher.
"The CPI report was in line with consensus, but the details paint a picture of lingering pressures at the core," Jefferies economists Aneta Markowska and Thomas Simons wrote in a note this week.
"We think that [the CPI] report keeps a 50 basis points hike on the table for the next FOMC meeting, though it is by no means a high conviction call," the economists said. "Regardless of the size of the next hike, we expect the FOMC to get to 5.1%, the only question is whether we get there in March or May."
David Russell, vice president of market intelligence at multi-asset trading platform TradeStation, told Insider he also sees potential in the Fed sticking with a half-percentage point rate hike in the upcoming meeting.
"There is risk that the Fed will remain hawkish to make sure they really have inflation dead and buried," he said, noting there is still upside pressure on shelter inflation.
Russell said the larger issue is how high the Fed wants to push up its key rate, which currently stands in a range of 4.25% to 4.5%. Recent quarterly Fed projections suggested central bankers see the terminal rate at 5.1% this year, while investors anticipate 5.25%.
The Fed, led by Chairman Jerome Powell, is "a long way" from its inflation target, said Dan Raju, founder and CEO of Tradier, a brokerage and financial-tech services company. He told Insider he sees a February rate move of 50 basis points still in play and foresees rates hitting 6% this year
"I think the Fed is to continue to have an aggressive posture toward interest rate hikes," he said.
JPMorgan CEO Jamie Dimon also said recently the key rate could rise to 6%.
Appetite for risk
Even in the face of further rate hikes, stock investors have displayed an appetite for risk, Raju and Russell each said.
Raju said his firm is seeing a pick-up in trading volumes, with stocks already moving higher on hopes the economy may avoid a hard landing and the Fed has somewhat of a handle on inflation now. Labor market data also suggests continued strength in that area of the world's largest economy.
"Bond yields moving lower, the VIX moving lower and the dollar moving lower suggests that the iceberg of fear that we've seen for the last year almost is easing," Russell said. "The market looks out and they see a scenario of lower inflation … they see that we're getting to the end of this aggressive rate hiking."
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