CNBC Daily Open: Rate cuts might not be in the cards despite cooling inflation

This report is from today’s CNBC Daily Open, our new, international markets newsletter. CNBC Daily Open brings investors up to speed on everything they need to know, no matter where they are. Like what you see? You can subscribe here.

Downbeat Asian markets
U.S. stocks ticked up Wednesday as another report showed inflation’s cooling. Despite that, Treasury yields rose. Asia-Pacific markets, however, fell Thursday. Hong Kong’s Hang Seng Index dropped 1.26%, dragged down by Xpeng’s 3.83% decline after the Chinese electric vehicle company reported disappointing earnings results.

‘Planet Earth is big enough’
U.S. President Joe Biden met Chinese President Xi Jinping yesterday on the sidelines of the Asia-Pacific Economic Cooperation conference. Both leaders agreed to resume high-level military communications. As part of the agreement, senior U.S. military commanders will engage with their Chinese counterparts. As Xi said in his opening remarks, “Planet Earth is big enough for the two countries to succeed.”

Emptying Citi
Citigroup will start laying off workers as part of CEO Jane Fraser’s corporate overall, CNBC has learned. Citi employees who will be let go will be informed starting Wednesday U.S. time, and the process will continue until early next week, according to people with knowledge of the situation. It seems no one will be spared: chiefs of staff, managing directors and lower-level employees will all be affected.

Microsoft’s own AI chip
At its Ignite conference in Seattle, Microsoft announced two custom chips. The first, its Maia 100 artificial intelligence chip, could compete with Nvidia’s AI chips. The second, a Cobalt 100 Arm chip, is designed to tackle general computing tasks and could supplant Intel processors. But Microsoft is planning to use its chips internally, and doesn’t intend to let other companies buy those chips.

[PRO] Magnificent One
Shares of the Magnificent Seven stocks — Alphabet, Amazon, Apple, Meta, Microsoft, Nvidia and Tesla — have surged this year, propelling the S&P 500 higher. They’ve also drawn criticism that their prices are too high, based on their price-to-earnings ratio. But there’s an exception: Morgan Stanley thinks one of them is “pretty inexpensive relative to free cash flow growth or earnings growth.”

Wholesale prices in October, as measured by the producer price index, fell 0.5% for the month against the expected 0.1% increase. That’s the biggest decline in more than three years. When producer prices fall, it takes a while for those lower prices to seep into the general consumer economy, so it’s plausible we’ll see CPI continue dropping in the months ahead.

Major U.S. indexes rose — slightly — on that encouraging news. The S&P 500 increased 0.16% and the Nasdaq Composite edged up 0.07%. The Dow Jones Industrial Average gained 0.47% for its fourth consecutive winning session.

The stock market rally over the past two days, it seems, was fueled by investors’ expectations that lower inflation readings will prompt the Federal Reserve to cut rates sooner rather than later. Investors think there’s a 29.6% chance the Fed will slash rates by a full percentage point by the end of next year, according to the CME FedWatch tool.

But that flurry of cuts is two times as aggressive as the timeline the Fed itself penciled in two months ago, noted CNBC’s Jeff Cox. And that, to put it mildly, “may be at least a tad optimistic,” Cox wrote.

Investor optimism, ironically, may be counterproductive as well. Expectations of a rate cut forced down Treasury yields Tuesday (though they rose again yesterday). Treasury yields tend to serve as the benchmark for loans and other assets, so when they drop, financial conditions loosen — exactly what the Fed doesn’t want to see.

“Financial conditions have eased considerably as markets project the end of Fed rate hikes, perhaps not the perfect underpinning for a Fed that professes to keeping rates higher for longer,” said Quincy Krosby, chief global strategist at LPL Financial.

Indeed, “this is at least the 7th time in this cycle that markets [anticipate] … a potential dovish pivot,” wrote Deutsche Bank macro strategist Henry Allen. (Spoiler alert: Investors have, without exception, been disappointed the previous times as the Fed refused to budge.)

In short: While it’s undeniable inflation’s dropping, there’s no guarantee rates will fall in tandem. It might be better to be pleasantly surprised than to be disappointed.

— CNBC’s Jeff Cox contributed to this report.