Fed's Transitory Flip Confirmed

| About: SPDR S&P (SPY)

Summary

.4 CPI was a big number.

The Fed's last FOMC meeting expected transitory effects (oil and Dollar) to correct in the medium term, as opposed to the near term.

Since the last FOMC meeting those transitory effects flipped and have been confirmed by higher CPI.

We expect a pull forward of rate hike expectations which can mean weaker markets.

The core CPI came in as expected at .2%. The issue is the topline number of .4%. The annual trend for overall inflation had been 1.1%. A .4% implies a 4.8% annual rate of inflation. Obviously nobody expects that to maintain, but the change is meaningful.

We wrote yesterday that the CPI had potential upside due to oil and the Dollar. These 'transitory effects' were cited by the Fed in their last FOMC statement as a reason they were able to hold back rate increases.

We have now entered the Fed's medium term

In the recent FOMC meeting, The Fed said, "Inflation is expected to remain low in the near term, in part because of earlier declines in energy prices, but to rise to 2 percent over the medium term as the transitory effects of declines in energy and import prices dissipate and the labor market strengthens further."

May 17th has now become, according to the Fed definition, the 'medium term.' Welcome, we are now in the medium term.

That would imply that the Fed no longer has this excuse to hold back rates. Talk should start up again that rates can go higher sooner than the Fed Funds Futures expectation for December.

Head Fake

We wrote on Sunday that the negative interest rate talk of last week probably has Fed handicappers leaning the wrong way this week. We think that can reverse with this CPI's ammunition for rates to now rise, not fall.

We Have A Perception Disconnect That Needs Fixing

The Fed Minutes come out tomorrow which reflect their last meeting which calls for more inflation in the medium term. In the face of Yellen's negative rate commentary last week and tomorrows minutes we'd guess the Fed will need to reverse that expectation after the CPI numbers.

In conclusion, we think traders are leaning bullish, but the Fed commentary down the road can shift bearish, pulling forward rate hike chatter. We are bearish on the S&P 500 (NYSEARCA:SPY) for that reason.

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