Instant view: Warm Sept CPI inflation chills outlook for dovish Fed

(Reuters) - U.S. consumer prices rose slightly more than expected in September, but the annual increase in inflation was the smallest in more than 3-1/2 years, potentially keeping the Federal Reserve on track to cut interest rates again next month.

The consumer price index increased 0.2% last month after gaining 0.2% in August, the Labor Department said on Thursday. In the 12 months through September, the CPI climbed 2.4%, the smallest since February 2021 following August's 2.5% advance.

Economists polled by Reuters had forecast the CPI edging up 0.1% and rising 2.3% year-on-year.

MARKET REACTION:

STOCKS: U.S. stock index futures extended a slight loss to -0.35% pointing to a soft open on Wall Street BONDS: The 10-year U.S. Treasury yield edged off to 4.0667% and the two-year yield fell to 3.9908%FOREX: The dollar index was off 0.09% and the euro was 0.02% firmer

COMMENTS:

ROBERT PAVLIK, SENIOR PORTFOLIO MANAGER AT DAKOTA WEALTH IN FAIRFIELD, CONNECTICUT

"It's a little bit hotter than expected, the top line and the core level, and is a bit of a disappointment for those that were hoping for rate cuts coming at successive meetings. People are thinking the Fed is now going to be concerned about the level of inflation. It's kind of a kick in the shins."

"CPI isn't the preferred method of tracking inflation by the Fed but its darn close. People are thinking the Fed is going to drag its feet on rate cuts."

"Stock futures would be down more had it not been for the initial unemployment claims which is higher than expected."

"That could be for a number of reasons like hurricanes or strikes, but that number has been creeping up which means the job market may not be as strong as some are thinking."

"Stock futures are reacting immediately to the data. The CME Fedwatch tool is probably taking into account that you had a giant hurricane take out part of the south and then you just had another one."

"The hurricane may make it a little more likely the Fed is going to continue to cut interest rates to help the economy keep moving forward."

WHITNEY WATSON, GLOBAL CO-HEAD AND CO-CIO OF FIXED INCOME AND LIQUIDITY SOLUTIONS, GOLDMAN SACHS ASSET MANAGEMENT (by email)

"The September CPI report came in stronger than expected, with core CPI in particular surprising to the upside. Labor market data, however, remains in the driving seat for the Fed and we see next month's payrolls release as the more important data point in determining the pace and extent of Fed easing."

JAMIE COX, MANAGING PARTNER, HARRIS FINANCIAL GROUP, RICHMOND, VIRGINIA (by email)

"Disinflation continues, but anyone who thought the Fed was going to lower rates by another .50 basis points in November is dead wrong. When interest rates aren't high enough to lower growth, they aren't high enough to stifle inflation completely either. The Fed will lower rates, but at a measured pace from here."

PETER CARDILLO, CHIEF MARKET ECONOMIST, SPARTAN CAPITAL SECURITIES, NEW YORK

"The numbers are hotter what we were looking for. And what I see here is indications that perhaps inflation is stalling that we shouldn't be expecting to see inflation moving lower over the next two or three months."

"We saw the year-on-year core rate actually go up, and that's disappointing."

? "It's not terrible news, but it's certainly not good news and it just simply indicates that maybe the best gains, the best gains of inflation may be behind us for the next couple months."

? "It also suggests the Fed is not going to be as aggressive as previously thought and we're probably looking at just one rate cut from now till the end of the year, which could come in December because the Fed is going to take their time."

"I would say I think the Fed jumped the gun (with a 50 bp rate cut) and if you look at the minutes they were certainly divided on that."

"I don't see the market falling apart but today's inflation data is likely to bite into positive market sentiment."

BRIAN JACOBSEN, CHIEF ECONOMIST, ANNEX WEALTH MANAGEMENT, MENOMONEE FALLS, WISCONSIN"Inflation was a little hotter than expected in September. Food and shelter cost inflation hit hard. September will be the last month for a while where we see energy price deflation. Inflation expectations move in tandem with energy prices, so the Fed will have to start giving equal air time to worries about inflation moving higher and the economy slowing. Goods price deflation won't be enough to counterbalance higher energy and food prices. The market swung from thinking the Fed was too timid in its rate cut projections to being a bit ambitious." (This story has been refiled to add the dropped word 'were' in Cardillo's quote, in paragraph 17)

(Compiled by the Global Finance & Markets Breaking News team)