The consumer price index showed firmer price pressures in January, as the annual CPI inflation rate fell less than expected. The core CPI inflation rate, which excludes food and energy, also came in higher than expected. The S&P 500 went up and down initially, but the selling consolidated Tuesday morning. Stock market action, following Monday’s rally.
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Dos and don’ts of the CPI inflation report
The CPI inflation rate eased to 6.4% from 6.5% the previous month against Wall Street expectations of 6.2%. The consumer price index rose 0.5% for the month, in line with forecasts, but much stronger than the moderate increases of 0.1% and 0.2% in the previous two months.
Core CPI rose 0.4% from December levels, above the 0.3% forecast. The annual core inflation rate eased to 5.6% vs. 5.7% in December and forecast of 5.5%. The core CPI inflation rate reached a 40-year high of 6.6% in September.
Fed Chairman Jerome Powell has said the most important spending category for the inflation outlook is basic non-housing services, as reported by the Department’s end-of-month personal income and spending data. trade. Wall Street sees the CPI measure for services minus housing rent as a reasonably close indicator, but it has serious flaws.
The CPI for January showed that the prices of services less housing rent increased by 0.6% in the month and 7.2% over the previous year, compared to 7.5% in December.
Impact of Federal Reserve Policy
The CPI report doesn’t really change the Fed’s policy outlook. Quarter point rate hikes in March and May look all but certain as the Fed errs on making monetary policy too tight. A strong jobs report for January and improved global growth have put policymakers on guard against a further reassertion of price pressures, which could entrench high inflation. Meanwhile, with a recession looking less likely, the downside of tighter policy has receded.
After the CPI report, the odds of a third Fed rate hike in July rose to around 60% from just below 50% before the data.
The extent to which the Fed continues to increase after that will depend less on CPI than on wage growth, which is key to the service sector inflation outlook. The good news for markets sparked by the current S&P 500 rally attempt is that wage growth has slowed surprisingly.
S&P 500 reaction to CPI report
After the CPI report, the S&P 500 fell 0.8% in volatile morning trade. The S&P 500 rose 1.1% on Monday, rallying back above the key 4100 level. The upside potential of the current rally may be limited in the short term. Wednesday is expected to bring a good retail sales report, which could stoke fears that the US economy has renewed momentum that will require even higher interest rates.
The 10-year Treasury yield rose 7 basis points to 3.79% after the CPI inflation data. The 2-year Treasury yield, which is more closely linked to Fed decisions, jumped 10 basis points to 4.63%.
Through Monday’s close, the S&P 500 is up 15.7% from its bear market closing low, but remains 13.7% below its all-time closing high.
Be sure to read IBD’s The Big Picture every day to stay in sync with the direction of the market and what it means for your trading decisions.
CPI report details
The prices of basic goods rose 0.1%, after three consecutive monthly falls. That left the 12-month inflation rate at 1.4%.
Energy prices rose 2% in the month and 8.7% over the previous year.
Household food prices rose a more moderate 0.4% on the month, while household food prices rose a faster 0.6% since December.
The CPI report showed used car prices fell 1.9% while new vehicle prices rose 0.2%.
Clothing prices rose 0.8% and are now 3.1% higher than a year ago. The prices of transport services rose 0.9%. Health care service prices fell 0.7% on the month, but that reflected a large drop in health insurance prices. The prices of hospital services rose 0.5% in the month.
CPI representation for basic services not related to housing
It is possible to construct an inflation index from the CPI that has some relationship to the basic category of non-housing services highlighted by Powell.
Starts with utilities minus shelter rent. Subtract energy services and health insurance (which is derived from last year’s health insurer earnings). Then add lodging and food services. In January, the CPI proxy for basic services other than housing registered a price increase of 0.5% for the month, while the three-month annualized inflation rate held at 5.6%.
This CPI category covers only 29% of consumer spending, while PCE non-housing basic services cover 50% of household spending. In other words, there are still big differences. Healthcare is notorious as it accounts for nearly 16% of PCE spending, while medical services account for less than 7% of CPI budgets.
The best clue about PCE health services inflation will not come from the CPI but from Thursday’s producer price index. The medical services component of the PPI feeds directly into the PCE, Deutsche Bank economists wrote in a note on Friday. They added that news about healthcare inflation could be positive. After large increases in PCE health care prices in January of the past two years, the reduction of a pandemic increase in Medicare physicians’ fees effective January 1 could contribute to more subdued inflation.
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