Deflating

Good Afternoon,

If the U.S. economy were a movie, we'd be at the edge of our seats. After a shockingly hot jobs report last week, Wednesday's inflation data threw another curve ball at investors. The report showed inflation remained flat in July, which was below estimates and sparked hope that prices have peaked for the time being.

This week, we're diving into Wednesday's inflation report and how the Fed will respond come September. We're also analyzing Biden's student loan forgiveness plan.

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In the News

It's been another very interesting week. Kalshi markets are split on whether Biden will forgive student loans and are cutting expectations that inflation will grow in August. Markets are also growing in confidence that Monkeypox will be named a pandemic by the end of 2022 and that rates will be hiked by more than 75 bps come September.

Return of the Bull Market

Wednesday's inflation report sent markets soaring, with the Nasdaq climbing almost 3% and other major indexes also notching significant gains.

Wednesday's report showed inflation remained flat in July, after soaring 1.3% in June to an 40-year high. This was primarily driven by falling energy costs, with gas prices falling 7.7% in July alone.

Similar to last week's jobs report, this data came as a huge surprise to investors. Right before the report was released, Kalshi markets were predicting a 82% chance that inflation would rise 0.1% or more in July.

Investors interpreted the print as a signal that inflation has peaked and celebrated accordingly. Wednesday's rally sent the Nasdaq into bull market territory, having now surged 20% from its low in June.

However, zooming out to the bigger picture, inflation is still way out of control. Rent prices are up 6.3% year over year and food prices have risen over 10% in 2022 alone, the highest annual spike since 1979. Year over year inflation is also still hovering at 8.5%, its highest point in 40 years. The economy is far from where the Federal Reserve wants it to be, which brings into question how long this rally will last.

It could be spoiled as early as next month, when the August inflation print is slated to be released. Kalshi markets are predicting a 69% chance that inflation will begin to rise again in August and a 51% chance that it will climb by more than 0.1%. It seems current investor sentiment may be here for good time and not a long time.

Pumping the Brakes

Despite optimistic data in July, the Federal Reserve has made it clear that the fight to tame inflation is far from over.

Neel Kashkari, president of the Minneapolis Federal Reserve, stated in a recent interview that the Fed's path forward remains unchanged. Even in the face of a cooler than expected inflation report, Kashkari outlined that the goal is still to raise the benchmark interest rate to 4.4% by the end of 2023 and that "I haven't seen anything that changes that."

Kashkari's statements were backed up by Charles Evans, president of the Chicago Federal Reserve, who reiterated that the Fed will continue to hike rates going into 2023. Citing the fact that inflation is still "unacceptably high", Evans asserted that there "will be increasing rates the rest of this year and into next year to make sure inflation gets back to our 2% objective.”

Despite the hawkish statements made by Kashkari and Evans, some are asking the Fed to do more in reminding investors that inflation has not been tamed, given the recent rally in equities. Seema Shah, chief strategist at Principal Global Investors, said in a recent interview that "the market is underestimating the risks out there" and investors "need that catalyst to remind them, and that has to come from Jerome Powell."

Although equity investors may be brushing off these statements, Kalshi's markets are getting the message. Interest rate markets are predicting a 93% chance that the Fed will hike rates by at least 50 bps come September and a 31% chance the hike will be at least 75 bps.

To Forgive or Not to Forgive

Earlier this week, Biden's press secretary told reporters that his decision on student loan forgiveness will come by the end of August.

The exact details of the plan are unclear but, if passed, is expected to cancel $10,000 in debt for each borrower making less than $150,000 a year. Given that roughly 40 million Americans have student loans, this would amount to over $321 billion in loans eliminated.

Critics have blasted the plan for its hefty price tag in the face of record inflation and argue loan forgiveness would worsen the exact issue it seeks to solve: wealth inequality.

In a recent interview, Purdue University President Mitch Daniels called the plan "a gift to the wealthy." Daniels referenced a study by the University of Chicago, which showed student-debt cancellation would redistribute income upward. Susan Collins, Republican Senator from Maine, has also criticized the plan as unfair to those who repaid their debt over many years.

Many have pushed for loan forgiveness to increase the affordability of higher education in the United States, which has put Americans in $1.6 trillion worth of debt. Proponents also argue that student loans have crippled an entire generation, with millennials now on track to be the first generation poorer than their parents.

Kalshi markets are forecasting a 48% chance that Biden will move forward with the plan by the end of 2022. This up significantly from April, when members were forecasting just a 8% chance the policy would be passed by the end of 2022.

Lit's Pick

For this week's Lit's Pick, we are buying the "No" for student loan forgiveness to pass by the end of the year. That's all for today, have a great weekend!

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