The biggest rise in U.S. consumer prices in 13 years has intensified investor focus on messaging from the Federal Reserve, with the central bank's chairman set to speak before Congress on Wednesday.
Stocks appeared to be taking June's sharp consumer price jump largely in stride, with major indexes edging lower after data showed inflation barreling higher amid supply constraints and a rebound in costs of travel-related services.
Benchmark U.S. Treasuries sold off, with yields rising, after a weak auction for the 30-year note.
With Fed Chair Jerome Powell due to testify before Congress on Wednesday, however, many will be watching for signs that the third straight month of hot inflation is pushing the central bank to alter its stance on rising consumer prices, which it has said are transitory, and may begin unwinding its easy-money policies sooner than expected.
The data were "clearly an upside surprise," said Michael Brown, senior analyst at Caxton in London. "It will make Powell's testimony on Capitol Hill tomorrow a much trickier exercise than it would've otherwise been given that it will put some additional pressure on the 'transitory' narrative."
Fed monetary support has been a critical for markets as the benchmark S&P 500 index has soared over 95% since March 2020. Any signs of a faster-than-expected unwind of the Fed's policies in order to curtail inflation, such as a tapering of its bond-buying program, stand to rattle asset prices.
A perceived hawkish shift from the central bank last month led stocks to wobble before indexes pushed to new highs, while the benchmark 10-year Treasury yield has moved lower.
Tuesday's report, which showed June's consumer price index rose 0.9% after advancing 0.6% in May, potentially complicates views that the economy is cooling off enough to forestall a faster unwind by the Fed.
Expectations of a slowing rebound have in recent weeks weighed on Treasury yields. They have also accelerated a rotation from shares of economically sensitive companies such as banks and energy firms back into the high growth technology-focused stocks that have led markets higher for most of the last decade.
A BofA Global Research survey of fund managers taken earlier this month found that 70% believed the spike in inflation was transitory, with 26% saying it would be longer lasting.
Indeed, some analysts on Tuesday pointed to details of the CPI rise, including a big boost from used car prices, as supporting the idea that inflation may be transitory.
"The report was a little jarring, but nothing in the report was shocking enough to change the narrative," said Brian Jacobsen, senior investment strategist at Wells Fargo Asset Management. "It still looks like the inflation pressure is highly concentrated in certain areas tied to the re-opening, like used cars, energy, and hotel prices."
Powell's appearances before a House of Representatives committee on Wednesday and Senate panel on Thursday come ahead of the Fed's next policy meeting on July 27-28. Investors are also focused on the Fed's economic policy symposium in Jackson Hole, Wyoming in late August for when the central bank could signal a shift.
"The market came around to the idea that the Fed wouldn't allow inflation to get carried away" after the release of the FOMC policy statement in June, said Jack Janasiewicz, a strategist at Natixis Advisors. "The 'don't fight the Fed backdrop' will be very important here. As long as it continues to provide liquidity it's tough to get bearish on assets."