Inflation and the Fed continue to dominate market discussions, albeit somewhat overshadowed by the AI frenzy. As always, we'll steer away from sensational headlines and delve into the data, aiming to find clarity amidst the constant stream of economic reports.
The January Consumer Price Index (CPI) report offered valuable insights into inflationary trends. With a 3.1% year-over-year increase in headline CPI, it's clear that certain sectors, notably shelter prices, are driving monthly upticks. Core services like shelter and medical care contributed to a 3.9% year-over-year rise in CPI, while core goods prices saw a slight decline. Despite these figures, real wages, adjusted for inflation, have remained positive, indicating a robust labor market. If we were to pause the music today, the Fed would almost achieve its dual-mandate goal of low inflation and full employment. Such fluctuations in inflation are not surprising; economic reports rarely follow a linear trajectory.
But do rising wages necessarily translate to increased demand? According to many CEOs of consumer-dependent businesses, not quite. Several have highlighted lower expected demand as consumers adjust to a higher interest rate environment. Throughout 2023, many consumers were shielded from higher mortgage and car rates by already owning homes or cars. However, life circumstances often dictate major purchases, and many consumers will soon face higher prices for vehicles or homes, coupled with higher interest rates. With the stimulus from previous federal programs fading away, credit card balances are rising as savings stabilize. While consumers may be making tougher choices, essentials will still find their place in the budget.
Corporate earnings reports have also made waves at the start of the year, with most major players reporting positive results. However, forward guidance is less optimistic, with uncertainty surrounding Fed policy and consumer health prevailing. Companies are closely monitoring the Fed's communications as they cautiously navigate refinancing corporate debt in today's higher interest rate environment. Semiconductor firms stand out on the earnings calendar, reminiscent of the early 2000s tech bubble. Companies associated with AI are experiencing robust share price gains, but this time, top firms are fundamentally strong and lead the AI race. Nonetheless, lower-quality firms riding the hype wave may face challenges ahead.
As we've emphasized in previous articles, volatility remains a prominent theme for the year. Markets are undergoing adjustments to align prices with Fed expectations. Corporations are optimizing their workforces and trimming costs as higher rates impact their bottom line. Many investors find the safety of cash appealing amidst sky-high valuations of certain assets. Add in the typical election year headlines, and you have a recipe for market swings. Consult your trusted advisor and stay grounded amidst the constant stream of market news.