U.S. Economics – Oil, Inflation, and Rates

Intro

The direction in price for WTI Crude Oil has tilted the range of possible outcomes further away from our previous expectations for inflation in the first half of 2025. While inflation may remain above the FOMC’s 2% target, there is a rising probability that the Consumer Price Index will decelerate on a rate of change basis through April, which may change the timing of FOMC rate cuts.

Oil, Inflation, and Rates

The Signals:

• • CPI and Oil (Chart 1)
    • While Headline CPI has moved up from 2.4% in September to 3.0% in January, the All Items excluding Energy series has largely been flat on a rate of change basis since September.
      • Looking at that dynamic from a different angle, the y/y CPI contribution from Energy Commodities moved from -60 basis points in September to effectively 0 in January, the same amount by which Headline CPI accelerated.
      • This confirms two important dynamics worth highlighting:
        • The addition-by-less-subtraction energy dynamic occurred as expected but is likely to expire over the next few months as comparisons for Oil become more difficult.
        • There is still a significant chunk of the inflation basket that is above the FOMC’s 2% target.
  • Oil End-of-Month Average Price (Chart 2)
    • The Energy Commodities component of CPI has historically moved in the direction of WTI Crude Oil prices on a y/y basis.
      • The average spot price for WTI Crude Oil over the month of February is tracking to be $71.52 (through February 25th close), meaning the y/y growth rate will switch from 1.7% to -6.7%, likely leading to a reversal of the inflationary impulse that Energy Commodities provided over the last four months.
      • The March comparison will rise to $80.41, thus Oil would have to increase by roughly 5% in March to match the -6.7% y/y deceleration from February and halt the incremental subtraction from Headline CPI.
      • The flat rate of change math (-6.7% y/y through April) for the $84.39 April comparison is the same assuming Oil does rise by 5% in March and closes at $75.10.
      • If Oil stays at $71.52 in March and April, then the y/y pace would slow from -6.6% to -11.1% in March and -15.3% in April, putting downward pressure on CPI in those months.
  • US2Y Yield (Chart 3)
    • Recently the 2-year Treasury yield has resumed its downward trajectory, likely front-running the potential for a deceleration in CPI and rising probability of an FOMC rate cut that is expected to occur at their July meeting based on the Fed Funds futures market.
      • We will be monitoring this closely as we track the disinflationary setup over the next few months.
  • Fed Funds Futures (Chart 4)
    • At the time of writing, there are two 25 basis point rate cuts priced in for all of 2025 with the first cut to occur at the July FOMC meeting.
      • The total amount of expected rate cuts for 2025 was closer to one on February 12th.

The Takeaway:

• The comparison set for Oil becomes tougher through April, likely putting downward pressure on Headline CPI.
• This disinflationary setup may give the FOMC clearance for a rate cut at their July meeting.

Visuals:

(Chart 1)

Source: Macrobond

(Chart 2)

Source: Macrobond

(Chart 3)

Source: Koyfin

(Chart 4)

Source: Bloomberg

Market Trends:

Source: Macrobond

The views expressed herein are presented for informational purposes only and are not intended as a recommendation to invest in any particular asset class or security or as a promise of future performance.  The information, opinions, and views contained herein are current only as of the date hereof and are subject to change at any time without prior notice.