What Inflation Week Actually Means for Fed Policy and Market Structure

The CPI report drops Tuesday, and Morgan Stanley's calling it "spicier" than usual. That's Wall Street speak for higher inflation numbers, which matters because this is the first of three reports this week that feed into PCE—the Fed's actual favorite inflation gauge.

Matt Hornbach, Morgan Stanley's global head of macro strategy, broke it down on Bloomberg: CPI on Tuesday, PPI on Wednesday, import prices on Thursday. All three roll up into the PCE number the Fed uses to set rates. The Fed's next meeting is June 16-17, so they'll have all this data fresh when they decide whether to hold or move.

Treasury yields have been creeping higher because traders are nervous about inflation coming back. Morgan Stanley's current forecast is the Fed stays on hold all year, but that forecast depends on what these numbers actually show.

Bloomberg Economics expects both headline and core CPI to "print hot" for April. Two things are pushing prices up right now: the Iran war's driving up gasoline and airfare costs, and there's a one-off spike in rent inflation because the Bureau of Labor Statistics is correcting October's data from the government shutdown.

Economists surveyed by Bloomberg expect headline CPI to jump 0.6% in April after a 0.9% spike in March. Core CPI probably climbed to 0.3% from 0.2%. That's monthly movement, and monthly movement matters because it compounds fast if the trend holds.

The Iran conflict's been on traders' minds since it kicked off. We covered how geopolitical events like this move markets and what actually matters for positioning. The short version: energy shocks show up in inflation data first, market structure second.

But here's where it gets interesting. Hornbach's not convinced all this cost pressure is actually reaching consumers yet. Companies are eating more of the increased costs than you'd expect.

After Trump's Liberation Day tariffs hit, everyone thought companies would pass those costs straight through to retail prices. That didn't happen as much as forecasted. Corporations absorbed more than the models predicted.

So now the question is: what about energy costs from the Iran situation? What about the infrastructure buildout for AI that's eating capital across tech? How much of that can companies actually pass on without losing customers?

That's not just an inflation question. It's a margin question. If companies can't raise prices but their input costs are climbing, margins compress. Compressed margins show up in earnings, earnings drive stock prices, and suddenly your inflation story is a sector rotation story.

The Fed doesn't trade off CPI directly. They use PCE, which smooths out some of the noise and weighs housing differently. But CPI, PPI, and import prices all feed into PCE, so a hot week of data makes the PCE number more likely to stay elevated.

If PCE stays elevated, the Fed has a choice: hold rates where they are and let inflation run a little hot, or hike and risk breaking something in the economy. Morgan Stanley's bet right now is hold.

That matters for market structure because rate expectations drive Treasury yields, Treasury yields set the baseline for all risk pricing, and when that baseline moves, everything else reprices relative to it. Growth stocks get hit harder than value when yields climb. Credit spreads widen. Volatility usually picks up.

The Fed's been saying for months they're data-dependent, which means they don't know what they're doing next either. They're waiting to see what the numbers tell them. This week's numbers are going to tell them something.

Here's what matters for positioning. If CPI comes in hotter than 0.6%, yields probably push higher and tech takes some heat. If it comes in softer, you get a relief bounce. That's the easy read.

The less obvious thing to watch is the details inside the report. If energy and rent are driving the whole number and core goods are flat, that's transitory pressure. If core services are accelerating too, that's stickier and the Fed has to take it seriously.

Another thing: watch corporate earnings calls over the next few weeks for any change in language around pricing power. If CFOs start saying they can't raise prices anymore, that's a margin compression signal and it matters more than one month of CPI data.

And then there's positioning. If everyone's positioned for hot CPI and it comes in hot, the move might be smaller than you'd expect because it's priced in. If it comes in cold and catches people wrong-footed, the move could be bigger.

Inflation data is always noisy. One month doesn't make a trend, but one month can move markets if it shifts expectations about what the Fed does next. This week's data dump is the most important inflation input the Fed gets before their June meeting.

The Iran situation adds a wildcard because energy prices can move fast and energy moves everything else. If oil spikes another 10% before June, the Fed's calculus changes even if core inflation stays stable. Geopolitical risk has a way of forcing policy decisions.

For now, the market's pricing in a hold. Treasury yields are sitting just under recent highs, volatility is elevated but not spiking, and equities are consolidating after the March rally. That's a wait-and-see setup.

If you're trading around this, the key levels to watch are the 10-year Treasury yield around 4.5% and the VIX around 15. Break above 4.5% and risk-off behavior accelerates. VIX above 15 and hedging costs start to matter.

The inflation story isn't over. It's just taking a different shape than it did in 2021-2022. Back then, the Fed was way behind. Now they're closer to where they need to be, but the data's still choppy and geopolitics keeps throwing curveballs. This week's numbers give us the next clue about what happens from here.