Stocks Rally on Higher Odds for Fed Rate Cut after CPI Report

US equities rallied on Tuesday, with the S&P 500 gaining over 1%, primarily due to a CPI report that solidified expectations for a September Fed rate cut, now priced at 94%. Although headline CPI was slightly weaker, core CPI was marginally stronger, reinforcing the dovish outlook. This positive sentiment was somewhat offset by President Trump's renewed attacks on Fed Chair Powell, which raised market concerns regarding potential political interference and its implications for Fed independence. Concurrently, President Trump extended the US-China tariff truce by 90 days, while robust Q2 S&P 500 earnings, up 9.1% year-over-year with 82% of firms beating estimates, provided additional underlying market strength.

Analysis

US equity indices, including the S&P 500 (+1.14%) and Nasdaq 100 (+1.33%), rallied as the July CPI report solidified market expectations for a Federal Reserve rate cut in September. The probability for a cut increased from 88% to 94% after the report, which showed headline CPI at +2.7% y/y (slightly weaker than expected) and core CPI at +3.1% y/y (slightly stronger than expected). This dovish sentiment pushed the 2-year T-note yield down by 4.0 bp. However, this optimism is tempered by significant political and trade risks. Renewed attacks by President Trump on Fed Chair Powell created upward pressure on the 10-year T-note yield, raising concerns about Fed independence and long-term inflation. On the trade front, a 90-day extension of the US-China tariff truce provided temporary relief, but this was juxtaposed with new tariff threats, including a potential 100% tariff on semiconductors and doubled tariffs on Indian imports. Fundamentally, the market is supported by a robust Q2 earnings season, with S&P 500 earnings on track to grow +9.1% y/y, significantly beating the +2.8% pre-season forecast, as 82% of reporting companies have exceeded profit estimates.

Key Decisions for Investors

• Investors should recognize that the current market rally is heavily dependent on the 94% probability of a September Fed rate cut; any deviation in upcoming economic data like PPI or retail sales could trigger significant volatility.
• While the China tariff truce is a short-term positive, the announced intentions to levy substantial new tariffs on semiconductors and Indian imports introduce significant policy risk, warranting a cautious stance or hedging on globally exposed industrials and tech.
• Focus on stock-specific fundamentals, as demonstrated by the strong outperformance of companies with positive catalysts (HBI, UAL) versus those with negative guidance (CAH, GETY), especially given the strong overall corporate earnings backdrop.
• Despite a broad rally in chip stocks, the specific report of China discouraging the use of Nvidia's (NVDA) chips presents a material headwind that could cap the stock's relative performance, justifying a closer look at competitors less exposed to such targeted policies.