The Party’s Over, Perma-Bulls!

January’s Hot CPI and PPI: The Party’s Over, Perma-Bulls!

When the market prices sunny assumptions and best-case scenarios into large-cap stocks, the house of cards could fall apart with just a slight breeze. Multiple data points from January add up to more than just a breeze because a windstorm of trouble is brewing for the economy and markets.

For one thing, the commonly cited “strong U.S. consumer” theory is quickly falling apart in 2024. This was supposed to be the pillar that held up the economy and stock market. Despite high borrowing costs and elevated prices for a wide array of products and services, Americans continued to inject money into the system by shopping like there’s no tomorrow.

That argument already started to fall apart when the U.S. Commerce Department downward-revised December’s retail sales to a 0.4% gain. That’s the oldest trick in the book: release a more optimistic figure immediately and then revise it later on when people aren’t paying attention to it anymore.

Then came January’s report, and the result was devastating since U.S. retail sales fell 0.8%, marking the steepest drop in nearly a year. Is it possible that, after maxing out their credit cards with 24% annual interest rates during last year’s holiday season, Americans are finally realizing that they can’t spend their way to prosperity?

Perhaps they’re also coming to the realization that inflation isn’t just going to go away in 2024. Practically every commonly cited measure of U.S. inflation is turning up, which is certainly frustrating for the perma-optimists as well as the politicians who rely on favorable economic data.

According to the U.S. Labor Department – which also has a tendency to revise its data, by the way – January’s annual Consumer Price Index (CPI) growth came in at 3.1%. That’s disappointing when economists had predicted 2.9% annualized CPI growth.

The biggest price increases, unfortunately, hit the middle class in the essential areas that matter most. Specifically, housing and food costs increased 0.3% month-over-month in January. Meanwhile, core CPI increased 0.3% month-over-month in January, up from 0.2% in December. On a year-over-year basis, core CPI growth came in at 3.9% in January, and that’s certainly higher than the Federal Reserve’s 2% inflation target.

Then came the Producer Price Index (PPI) report, which measures the prices that businesses pay to manufacture their products and services. As it turns out, January’s PPI increased 0.3% month-over-month, which is higher than what economists had expected and a disappointment after December’s 0.1% month-over-month decrease.

Like CPI, PPI is turning up and disrupting the narrative that the economy is running on all cylinders. Year-over-year, January PPI growth came in at 0.9%, above expectations of 0.6%. On top of that, annualized core PPI inflation growth increased to 2%, above economists’ forecast of 1.6%.

All of this makes it extremely difficult, if not impossible, for the Federal Reserve to cut interest rates in the upcoming March FOMC meeting. Just a few weeks ago, the market assumed that a March interest rate cut was a foregone conclusion. After the spate of unfavorable inflation data, hardly anyone expects a rate cut in March now.

The market, which already priced the assumption of a March rate cut into large-cap stocks, now has to pray for more favorable inflation data and a June interest rate cut. If the situation gets worse with inflation, there might actually be a rate hike in the works.

The implications of this would be far-reaching. The annual 30-year fixed mortgage interest rate could return to 8% or go even higher than that. With that, the already precarious housing market would be on the brink of a 2008-style collapse.

The perma-bulls can hope that this doesn’t happen, but remember that hope isn’t a viable investment strategy. Preparation, not hope, is the key to succeeding when the economy and markets grow and surviving the fallout when the system eventually breaks down.