MW The market's been wrong on the Fed for three straight years - this Deutsche Bank strategist says it's now looking like four.

By Barbara Kollmeyer

Betting markets are assigning a chance to European Union and Canadian tariffs that financial markets are not

The day is setting up as a lackluster one for stocks, as more earnings head our way.

The bond market got jolted on Tuesday after June consumer prices rose the most per month since the start of 2025, on worries tariff fallout is starting to show up.

Read: S&P 500 stumbles after hitting intraday high - the downside of a narrow rally

But though bonds reacted, Henry Allen, macro strategist at Deutsche Bank, warns "inflation risks are still being underestimated, with a remarkable complacency across key assets."

"This is particularly so when you consider that the 2021-23 inflation spike wasn't anticipated at all in advance. And it's already the 4th year in a row (so far) that markets have overestimated how dovish the Fed are going to be," said Allen, in a note to clients on Wednesday.

He lays out several factors "coalescing at a global level" that could drive up prices further. The first is rising tariff rates, with President Donald Trump's 10% baseline for most countries and other sectoral tariffs such as steel, aluminum and autos now added.

"There's still the looming prospect of tariffs on Aug. 1, which markets simply aren't pricing in yet," he said, with levies also proposed on sectors such as copper (HG00) that "could lead to continuous price jumps that persist for several months."

Tuesday's CPI data showed household appliance prices up the most on record per month. "The concern is that this strength among core goods categories will start to be felt more widely through the consumer basket, and become more broad-based," Allen said, noting that in 2021, a big jump in inflation wasn't widespread at first.

Read: Bond market sends troubling signal on inflation that should concern investors

Betting markets give the 30% tariffs on the E.U. that Trump is threatening a 28% shot of going through and a 43% chance for Canada's 35% tariff. "So if they did come into force, it's clear that would represent a significant surprise, and one that could still be unknown until the final hours," said Allen.

Another factor that could send inflation higher is the fact that retaliatory tariffs by other countries and a fresh round of price hikes cannot be dismissed. The European Union reportedly already has a list of U.S. products to tariff if needed.

"The level of tariffs now being discussed would likely force a response from many countries," he said. "So the risk remains that there could be inflationary pressure at a global level as higher tariffs cause a rewiring of supply chains."

That's as another cut from each of those central banks is being priced in for this year, which means easing financial conditions through lower future rate expectations.

Higher debt by the U.S. and other big economies could spark inflation. "Although inflation doesn't really work as an effective debt reductionstrategy in the long term - because investors simply charge higher rates tocompensate - it can work over a short-term horizon when the inflationcomes as a surprise," he said. That's a temptation for governments.

A final inflation trigger could simply be a surprise that can't be predicted, such as the conflict between Iran and Israel last month that briefly sent oil prices soaring.

"From a market standpoint, standpoint, investors need to face up to the fact that this is now the 4th year in a row (at least so far) that markets have underestimated how hawkish the Fed would be. After all, at the start of 2025, futures were pricing in a Fed rate cut by the June meeting, which hasn't happened," said Allen.

This keeps playing out - investors anticipate interest rate cuts that don't materialize, and are forced to keep pushing those out as growth data comes in stronger or inflation proves stronger than forecast.

"Given the inflationary pressures still in the pipeline from higher tariffs, these risks are still being underestimated, meaning that markets risk being taken by surprise yet again," said Allen.

The markets

U.S. stock futures (ES00) (YM00) (NQ00) are mostly lower with Treasury yields BX:TMUBMUSD10Y BX:TMUBMUSD02Y BX:TMUBMUSD30Y steady after Tuesday's inflation-driven spike. Bitcoin (BTCUSD) is hovering at $117,000.

   Key asset performance                                                Last       5d      1m      YTD     1y 
   S&P 500                                                              6243.76    0.29%   4.36%   6.16%   10.17% 
   Nasdaq Composite                                                     20,677.80  1.27%   5.93%   7.08%   11.72% 
   10-year Treasury                                                     4.482      14.20   8.60    -9.40   32.10 
   Gold                                                                 3345.1     1.04%   -1.80%  26.74%  35.23% 
   Oil                                                                  66.85      -1.95%  -9.34%  -6.98%  -17.29% 
   Data: MarketWatch. Treasury yields change expressed in basis points 

The buzz

Earnings are due from Merck & Co. $(MRK.UK)$, Bank of America $(BAC.SI)$, Goldman Sachs (GS) and Morgan Stanley $(MS)$.

Johnson & Johnson $(JNJ)$ lifted guidance on cancer drugs and heart products.

ASML shares $(ASML)$ (NL:ASML) are tumbling after the chip giant said sales might not see any growth next year.

Renault shares (FR:RNO) are dropping double digits after a profit warning from the automaker.

Producer prices are due at 8:30, industrial production and capacity utilization data at 9:15 a.m. and the Fed Beige Book of economic conditions is due at 2 p.m.

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The chart

Our chart from the Kalshi regulated exchange & prediction market puts chances of an exit by Fed Chairman Jerome Powell this year at 25%. That's a bit of a jump from even earlier this month, when it was at 15%.

Top tickers

These were the most active tickers on MarketWatch as of 6 a.m.:

   NVDA  Nvidia 
   TSLA  Tesla 
   GME   GameStop 
   AMD   Advanced Micro Devices 
   PLTR  Palantir Technologies 
   NIO   NIO 
   AAPL  Apple 
   PLUS  EPlus 
   AMZN  Amazon 
   IXHL  Incannex Healthcare 
   MSTR  MicroStrategy 

Random reads

Humpback whale, just chilling in Sydney's harbor

Anybody home? Black bear rings the doorbell.

-Barbara Kollmeyer

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July 16, 2025 06:56 ET (10:56 GMT)

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