Insights 
VT 
Impact Of Tariffs On Inflation
Market analysts are focusing on whether tariffs will impact consumer prices, as US CPI numbers are examined in detail. China’s tariffs might show a more pronounced effect rather than reciprocal tariffs, especially as trade discussions seem to have settled.
Research suggests foreign exporters have absorbed 14% of tariff costs, expected to rise to 25%. US consumers have absorbed 22% of costs, potentially increasing to 67%. Currently, US businesses have absorbed over half but this share may reduce to less than 10%.
Tariffs have increased core PCE price levels by 0.20%, with another 0.16% expected in July, and an additional 0.5% from August to December. This could leave core PCE inflation at 3.2% by December, assuming underlying inflation remains at 2.4%.
The inflation numbers largely affect the Fed outlook, with traders assuming a September rate cut. Markets are likely to maintain status quo if inflation aligns with expectations. However, a softer reading could spur debate on the extent of rate cuts needed.
Currently, traders foresee an 89% chance of a September rate cut with approximately 57 basis points factored in until year-end. Analyst CPI estimates vary, indicating different views on core and headline inflation changes.
Impact On Markets And Strategies
We are watching to see if the impact of tariffs will finally appear in today’s inflation report. The key focus is on core goods, as analysis suggests consumers are about to bear a much larger share of these costs. This could push core inflation toward 3.2% by the end of the year, creating a challenge for the Federal Reserve.
This follows last week’s Producer Price Index (PPI) report for July 2025, which already showed a 0.5% monthly increase, surprising many. That rise was led by costs for imported goods, which is a strong signal that businesses are no longer absorbing the full tariff costs. We believe this pressure is now spilling over to the consumer level.
With the market almost certain of a rate cut in September, the main risk for traders is a surprise in the inflation data. A higher-than-expected number could force the Fed to be less aggressive, causing a sharp negative reaction in short-term bond futures. We saw a similar quick repricing in late 2024 when the market got ahead of the Fed’s intentions.
This uncertainty makes options strategies on interest rate futures attractive. A soft inflation reading could spark talk of a 50-basis-point cut, while a hot number could eliminate that possibility entirely. Buying volatility through straddles allows a trader to capitalize on a significant market move in either direction.
We are also looking at derivatives tied to consumer-focused sectors. The National Retail Federation reported that consumer spending growth slowed to just 0.1% in July 2025, a sign that household budgets are already strained. A high inflation number would confirm worsening margins for retailers, making puts on retail ETFs a potential hedge.
We can look at the trade disputes of 2018-2019 as a guide for what may happen next. During that period, it took several quarters for tariffs to fully impact consumer prices as businesses absorbed the initial shock. The current situation suggests we have passed that absorption stage and are now entering the period of direct pass-through.
