A week earlier the US labour market delivered a shock. Jobs disappeared in July and equities rose anyway, because investors read the weakness mainly as a reason the Fed would have to do nothing in September. This week the confirmation arrived from a different direction. On Wednesday consumer inflation behaved itself, on Thursday producer prices did the same, and the S&P 500 closed above 7,800 points for the first time. What began as a summer of nerves around artificial intelligence and oil ended this week in something close to relief.
Two inflation readings and one conclusion
The US consumer price index rose 0.1 percent on the month in July and 3.4 percent on the year. Core inflation came in at 0.2 percent monthly and 2.5 percent annually. Both figures matched consensus exactly and both fell by a tenth compared with June. Shelter accounted for roughly two thirds of the headline increase, while energy fell another 1.5 percent on the month. That last point deserves nuance, because on an annual basis energy still stands almost fifteen percent higher.
A day later the producer price index confirmed the picture. It was unchanged in July, while economists had expected a rise of 0.2 percent. The core measure rose 0.2 percent against a forecast of 0.3 percent. On an annual basis the final demand index is still 4.7 percent higher, so this is hardly low inflation, but for the first time in months the direction is unmistakable.
Markets drew their conclusion immediately. The probability of a September rate hike fell to 42 percent according to CME's FedWatch, while the odds of no change rose towards 64 percent. That is a considerable shift for a week in which no Fed official had to say anything new. Chair Warsh made clear at the end of July that he would rather have markets respond directly to data than to his own phrasing. This week showed exactly how that works in practice.
The AI bill shows up in the inflation basket
Beneath the reassuring headlines sat a detail worth attention. Core goods rose 0.20 percent on the month, more than expected, and the main explanation lay in information technology. That category became 1.4 percent more expensive in a single month, contributing twelve basis points to goods inflation. Computers, software and phones grew more costly because corporate demand for AI capacity is pushing input costs higher, and those costs eventually reach the end user.
This is new. Until now the AI investment wave was largely a story about share prices and capital expenditure. It is now appearing in the inflation number itself. For the Fed that is uncomfortable, because this is not inflation that a higher policy rate easily tames. Anyone building data centres because the competition is doing the same will not be stopped by twenty five basis points. Investors who read this week's figures as entirely clean have therefore missed something.
Korea returns from the crash
Nowhere was the recovery more pronounced than in Seoul. The Kospi rose 3.56 percent on Thursday to 6,813 points, closing above 6,800 for the first time. It was the fourth consecutive winning session and the index now stands more than twenty percent above its 30 July low, which technically marks a new bull market. Samsung Electronics and SK Hynix led the way, supported by foreign buyers who had been heavy sellers only weeks earlier.
The speed of that reversal says more than the level. Less than three weeks ago those same two stocks recorded their largest single day gain ever, shortly after surviving a historic sell off. Memory chips outperformed the broader technology sector this week for the first time since June. That is welcome for anyone participating in the recovery, but it also defines where this market stands. A sector that falls thirty percent within weeks and then recovers more than twenty is not a sector in which position size is a detail.
Oil still hangs on a single strait
The oil market showed how narrow the foundation under the optimism is. Prices climbed early in the week as attacks on shipping undermined hopes of an agreement over the Strait of Hormuz, with Brent approaching ninety dollars. By Thursday the price had slipped towards 87 dollars as attention shifted to the demand side. Iran and Oman failed to reach an accord on reopening the waterway.
The International Energy Agency lowered its demand forecast and warned that prolonged conflict and elevated prices are weighing on consumption. At the same time it expects a deficit of 1.8 million barrels per day this quarter, more than double its earlier estimate, while US inventories rose by 17.4 million barrels. That is the tension in this market. A physical shortfall and weakening demand hold each other in balance, and any headline about diplomacy can tip the scale.
Gold benefited from the same rate story as equities. The price recovered towards 4,500 dollars this week and traded around 4,446 dollars on Thursday, while silver moved near 65 dollars. For a metal that touched almost 5,600 dollars in January before enduring its weakest quarter since 2013, that is a notable turn. The structural buyer in the background meanwhile stayed the same. Central banks purchased a net 289 tonnes of gold in the second quarter, the highest second quarter figure on record, and they did so precisely while the price was falling sharply.
Where this leaves the markets
The week delivers an agreeable combination. Inflation is cooling, the labour market is weakening just enough to keep the Fed still, and the AI trade is back. Both US and European equities are trading around record levels, with European companies posting more than twenty percent earnings growth for the second quarter.
Even so, the foundation is narrower than the prices suggest. The relief rests on two monthly readings, and between now and the September meeting the market still faces the PCE figures, August labour data and another inflation print. Oil depends on a negotiation that stalled again this week. And the AI investment carrying the market is now showing up on the cost side of that same inflation number.
For us that means discipline rather than conviction. Markets that rise on relief retreat faster than markets that rise on earnings growth. We therefore continue to work with fixed risk parameters per position, because the scenario in which everything goes right and the scenario in which one number disappoints were separated this week by no more than a tenth of a percentage point.
