Eurozone inflation fell sharply in September and by more than expected. At 4.3 percent, the flash annual rate was down from August's final 5.2 percent and 0.3 percentage points below the market consensus. This is its lowest reading since October 2021 and reduced the overshoot versus the medium-term target to 2.3 percentage points. However, in large part the decline reflected strongly negative base effects prices rose 0.3 percent on the month versus a particularly strong 1.2 percent increase in September 2022.

Still, more importantly, the core rates also undershot forecasts. The narrowest measure was down 0.8 percentage points at 4.5 percent, similarly three ticks short of expectations and its lowest print since August 2022. Excluding just energy and unprocessed food the rate declined 0.7 percentage points to 5.5 percent. Elsewhere, inflation in non-energy industrial goods decreased from 4.7 percent to 4.2 percent and in services from 5.5 percent to 4.7 percent, the latter's second successive drop. Energy (minus 4.7 percent after minus 3.3 percent) and food, alcohol and tobacco (8.8 percent after 9.7 percent) also had a negative impact.

Today's update reflects a number of distortions that cloud the underlying picture. In particular, the removal of some transport price caps in Germany led to a jump in prices that helped to slash the national inflation rate from 6.4 percent to 4.3 percent. Even so, with prices posting outright monthly declines in a number of countries, the signs are that Eurozone inflation is slowly starting to behave itself. Certainly the September data should make it all the less likely that the ECB will hike key interest rates again in October.

More generally, the inflation report puts the Eurozone RPI at minus 8 and the RPI-P at 10. Overall economic activity is marginally lagging expectations but, crucially, only due to surprisingly weak prices.

Consensus for September's HICP flash is 4.6 percent and 4.8 percent for the narrow core. These would compare respectively with August's 5.2 and 5.3 percent and reflect strongly negative base effects.

The flash harmonised index of consumer prices (HICP) provides an early estimate of the final HICP, but using just partial data. Changes in the index provide an estimate of inflation, as targeted by the European Central Bank (ECB). Final data are released a round two weeks later. Over the short-term, the central bank focusses on a number of core measures which seek to strip out the most volatile components and so give a much better guide to underlying developments. Two of these are made available in the flash report amongst which financial markets normally concentrate upon the narrowest which excludes energy, food, alcohol and tobacco.

The measure of choice in the Eurozone is the harmonized index of consumer prices (HICP) which has been constructed to allow cross member state comparisons. An investor who understands how inflation influences the markets will benefit over those investors that do not understand the impact. In the Eurozone, where monetary policy decisions rest on the ECB's inflation target, the rate of inflation directly affects all interest rates charged to business and the consumer.

Inflation is an increase in the overall prices of goods and services. The relationship between inflation and interest rates is the key to understanding how indicators such as the CPI influence the markets - and your investments.

Inflation (along with various risks) basically explains how interest rates are set on everything from your mortgage and auto loans to Treasury bills, notes and bonds. As the rate of inflation changes and as expectations on inflation change, the markets adjust interest rates. The effect ripples across stocks, bonds, commodities, and your portfolio, often in a dramatic fashion.

By tracking inflation, whether high or low, rising or falling, investors can anticipate how different types of investments will perform. Over the long run, the bond market will rally (fall) when increases in the HICP are small (large). The equity market rallies with the bond market because low inflation promises low interest rates and is good for profits.