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Wednesday data expected to show 2.7% annual rise in CPI

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S&P 500 up more than 27% so far in 2024

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Fed rate cut expected at meeting in wake of jobs report

By Lewis Krauskopf

NEW YORK, Dec 6 (Reuters) - An inflation report in the

coming week will test the strength of the record-setting U.S.

stocks rally and provide a crucial piece of data that could

factor into the Federal Reserve's plans for rate cuts.

The S&P 500 on Friday was on pace for its third-straight

weekly gain, pushing its year-to-date advance to over 27%.

The rosy backdrop for stocks is underscored by expectations

of further Fed interest rate cuts at the same time the economy

remains resilient.

That scenario historically has produced strong equity gains,

and it was supported by Friday's employment report that monthly

job growth was stronger than expected. Yet the data was not

likely to signal a material shift in labor market conditions

that would cause the Fed to rethink its rate trajectory at its

Dec 17-18 meeting.

However, data on consumer prices due on Wednesday could

threaten the upbeat narrative if inflation rates are above

expectations, posing a challenge for high-flying stocks.

"If you come in hot, I do think that's going to be tough for

the stock market to digest," said Matthew Miskin, co-chief

investment strategist at John Hancock Investment Management. "It

is going to bring in a little bit of uncertainty ahead of the

Fed meeting."

Bets that the Fed would cut rates at its next meeting firmed

after the November payrolls report. Data showed an increase of

227,000 jobs, but the unemployment rate ticked up to 4.2%.

Fed fund futures trading as of mid-day Friday indicated a

nearly 90% chance the central bank would cut by 25 basis points,

according to CME FedWatch.

Following the jobs data, there is a "higher bar" for the

upcoming consumer price report to pause any planned rate cut at

the Fed's next meeting, said Molly McGown, U.S. rates strategist

at TD Securities.

The consumer price index is expected to have climbed 2.7%

for the 12 months through November, according to Reuters data.

Rather than pause rate cuts, if CPI comes in hotter than

estimates, the central bank could implement a "hawkish cut" by

tempering expectations for reductions in 2025, Miskin said.

The potential for a revival in inflation is also in greater

focus because of President-elect Donald Trump's plans to raise

tariffs on imports. Tariffs are expected to be inflationary.

TD Securities expects the Fed to pause rate cuts at the

start of the year, as policy makers assess Trump's fiscal

policies after he takes office in January, McGown said.

"We heard from (Fed Chair Jerome) Powell that once they know

what the actual policies are, that's when they'll start to put

that into their framework of figuring out what they're going to

do with monetary policy," McGown said.

Meanwhile, stocks continue to charge higher, raising

concerns about sentiment becoming worrisomely optimistic. The

S&P 500 was trading at 22.6 times expected earnings for the next

12 months, its highest P/E ratio in more than three years,

according to LSEG Datastream.

Yardeni Research cited concerns with several measures, such

as bullish sentiment among investment advisors and foreign

private purchases of U.S. stocks.

"Contrarian indicators are turning bearish," Yardeni said in

a note on Thursday.

Yet some investors say the prospects for stocks look solid

into year end, which is a seasonally strong period for equities.

"The bear arguments from earlier in the year -- such as the

job market pressures, interest rate fluctuations, Fed

uncertainty, and geopolitical tensions -- have significantly

eased," Mark Hackett, chief of investment research at

Nationwide, said in emailed comments. "It is difficult to see

how this trend reverses by year end."