by Blaine Dickason
Senior Vice President Portfolio Management and Trading
Over the last two months, our investment team has been privileged to meet with many of our clients and professional partners as we’ve delivered our annual Investment Outlook presentation. This year’s theme of ‘Sticking the Landing’ is a nod to a successful conclusion of the Federal Reserve’s inflation fight and is in honor of the Summer Olympic games being held in Paris this summer.
Inflation’s Last Mile
On Tuesday, the Bureau of Labor Statistics published its Consumer Price Index (CPI) for the month of January. At +3.1% compared to last year’s January, the reported result was slightly higher than the +2.9% result estimated by economists. After peaking at over 9% in the summer of 2022, we’ve already made significant progress to bring inflation under control. However, just as in a marathon where the proverbial “half-way” point is at mile 20, the so-called last mile to bring inflation back to the Federal Reserve’s 2% target may prove to be the toughest on the course.
This week’s elevated CPI release generated a lot of headlines, as well as a sell-off in both stocks and bonds on Tuesday as concern that inflation was rearing its head once again surfaced. Shelter inflation, which is categorized under core services, remains the primary ‘sticky’ component - holding further progress towards 2%. Some more real-time indicators of housing costs have displayed moderation in price growth, and we anticipate the lagged housing measures in the inflation indexes will begin to moderate as well.
In contrast to the CPI, the Personal Consumption Expenditure (PCE) index is the more important inflation reading to be aware of, as it is the Core PCE that the Fed uses to measure progress towards their 2% target. There are many ways to measure inflation, which is felt differently by individuals based on the specific ‘basket’ of goods and services that they consume. The PCE index attempts to dynamically weight its various components to reflect consumer behavior versus the CPI index that uses static component weights. To their credit, the Fed has been consistent in using Core PCE since they instituted their explicit 2% target in 2012. As you can see below, both measures of core inflation remain on trend towards target, although Core PCE is clearly closer to crossing the finish line.
Economic data reported this week appears to have been affected by the extreme winter weather seen across much of the country in January. In addition to this week’s CPI report, retail sales and housing starts also displayed some likely weather impact to reported results. That being said, we know policy is not set from a single month’s data, and we look forward to further evidence of pre-existing trends in the coming months.
The U.S. Economy Remains Dominant
In addition to our Investment Outlook projection that the Federal Reserve will ‘stick the landing’ and manage inflation back to 2% without triggering a recession, the U.S. economy is dominating the competition just like Simone Biles on the balance beam. U.S. GDP is currently tracking at +2.9% to start 2024 after having grown at a 4.9% annualized rate in Q3 and a 3.3% rate in Q4 of 2023. Unceremoniously, Germany vaulted over Japan to become the third largest economy in the world despite losing .3% in Q4. Japan fell to fourth place after a contracting economy in both Q3 and Q4 of last year, entering a technical recession. Along with Japan, Germany and the UK are also in recession. Compared to China’s #2 world economy currently dealing with the downslope of a real estate bubble, the U.S. stock market appears as the modern incarnation of the 1992 Olympic Dream Team.
Takeaways for the Week
Nearly 80% of the S&P 500 has reported Q4 2023 earnings. Reported Sales growth has been +4.1% and Earnings +1.2%, surprising by +1.2% and +3.8% respectively
Bond markets are pricing in fewer than four ¼-pt interest rate cuts by the Federal Reserve in 2024 as of today, in contrast to over six cuts expected at the end of 2023